Central banks in the United States and Australia are showing their preparedness to throw almost everything at what’s now emerging as a market disruption to rival the global financial crisis.
On Thursday the Reserve Bank of Australia will announce further policy measures to support the economy after confirming on Monday it planned to begin a government bond buying program. This followed the aggressive monetary stimulus announced by the US Federal Reserve on Sunday night, which included a further 1 per cent cut to the Fed fund rate and an additional commitment to kick off a $US700 billion quantitative easing program.
The central bank actions follow a dramatic week and a half in markets both in Australia and globally as government and company lock-downs were announced amid escalating fears of the potential spread of Coronavirus.
“This is a black-swan event,” Dan Miles, Innova Asset Management managing director, told clients this week.
While Miles noted that the impact on financial markets as a result of the spread of Coronavirus couldn’t be modelled for, he said the longer-term economic impacts could. As such he noted that Innova’s previously adjusted portfolio settings reflecting a poorer returning environment including “lower beta” equity manager allocations and allocations tilted towards managers in cheaper regions would remain.
In the midst of the volatile financial markets Miles noted the investment firm is reducing exposure to retail sectors and instead focusing on global REITs and infrastructure, “rejigging” alternatives to take some money out of gold bullion and adding small allocations to silver bullion, as well as removing fixed income instruments with limited upside.
While the actions by governments and guidance by the World Health Organisation regarding travel and exposure to the virus have led to market panic, investors also need to be thinking about the longer term economic and market impact, Miles noted.
“…[I]t has been recognised that this will slow global GDP, shut down supply lines and make work hard for certain areas. It will hurt productivity, and hence corporate profits. When you’re trading at high valuations – that causes panic, especially for those fully invested without cash or other liquid securities on the sidelines – so you sell shares,” Miles noted.
‘V-shaped’ no longer likely
The national strategies implemented in Europe and in the United States, as well as what’s likely in Australia, implies that a so called “V-shaped” recovery is no longer the most likely scenario according to Toby Lewis, director of investment consultancy, Harbour Reach. It is more likely that the global economy will experience a “sudden stop”, with a sharp slowdown in GDP and business failures, Lewis said.
“Avoiding a protracted depression even greater than the GFC will likely require extreme monetary support and fiscal spending on a massive scale,” Lewis noted on Monday morning as the US Federal Reserve was announcing its latest QE measures and in advance of the RBA’s highlighted plans.
Germany and the US are providing loans direct to businesses, which may prove to be successful at avoiding permanent reductions in productive capacity, but will leave balance sheets in worse shape, Lewis noted.
“In Australia, the inflated housing market leaves the economy particularly vulnerable. Federal and State governments will be required to do more fiscally to avoid the worst scenarios.” Lewis said.
UBS analyst George Tharanou said in a macroeconomic note the RBA’s intention to lower the cash rate is sure to come amid broader QE measures, including both asset purchases and yield curve control.
“The economic situation will remain poor, even after smooth functioning in markets has been restored, so the RBA will probably continue secondary market purchases for some time,” Tharanou said on Monday.
Tharanou provided added that travel restrictions put into place by the Australian government would have an adverse impact on the local economy, noting that risks are now “skewed towards our downside scenarios”. The travel restrictions, which Tharanou said are likely to be extended beyond the initial 30 days, will bite deep into tourism related services – a $69 billion industry.
“More broadly, tourism-related consumption by Australians within Australia is even larger at $113 billion, or 5.8 per cent of GDP,” Tharanou continued. “With bans on public gatherings, social distancing encouraged, & unwillingness to travel (even domestically), this is likely to be hit as well.”
