After a great 2019 in the capital markets, 2020 was initially welcomed with great optimism as many investor concerns appeared to move into the rearview mirror. A China-US trade truce was at hand, the Fed and central banks around the world had sharply pivoted to an easy monetary policy stance, and the never-ending Brexit saga moved closer to an end point.
However, after a V-shaped price recovery, equity valuations and sentiment became stretched and the near-term risk/reward less favorable. Markets were left vulnerable to bad news. And bad news is what the world received as the coronavirus spread. First and foremost, there has already been a clear human tragedy for victims and their families.
From an economic perspective, this uncertainty places the expected modest uptick in global growth for 2020 at risk. The unknowns also rattled the stock market. After peaking on February 19, the S&P 500 dropped more than 10% in just four days, and a rush to safety pushed the 10-and 30-year US Treasury yields to all-time lows. Consequently, the Federal Reserve cut rates in a rare intermeeting move to help ease financial conditions on March 3.
We upgraded our equity outlook during the market selloff in late February, leaning into the uncertainty. Unlike a few weeks ago, markets are pricing in a decent amount of bad news. The bar for positive surprises has moved from very high to low. Despite the potential for a further overshoot and a continued heightened level of volatility, we see the market’s risk/reward as much improved for investors with a longer-term time frame. When looking outside of recession (which is possible but not our base case), markets have tended to have strong gains looking out 12 months after such intense and indiscriminate selling.
Still, we acknowledge that much uncertainty remains. However, it rarely pays to invest on the worst case scenario, though it does make sense to have a diversified portfolio to help cope with uncertain outcomes. We maintain a US equity and large cap bias. To provide ballast to portfolios, we continue to focus on high quality within fixed income but also see the widening of spreads in investment grade and high yield as an opportunity for investors with the appropriate risk tolerance.
As we look forward, the election race comes into focus, injecting further volatility into the market. We will continue to monitor the incoming data closely for any updates to our economic and market outlook.
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