Stock market and economic commentary September 2020

“The best thing about the future is that it comes one day at a time” Abraham Lincoln

It is now just over six months since the World Health Organisation declared the human tragedy that is now known as Covid-19 a pandemic. The virus that has claimed over one million deaths and caused much suffering continues to dominate headlines but the fact that Brexit and other geo-political concerns are now receiving an increasing level of press coverage is a sign, perhaps, that some sort of a new normality is beginning to return.

In recent weeks we have seen rumblings of discontent from the ongoing Brexit negotiations, with the EU’s negotiator Michel Barnier concerned at the lack of progress, despite the UK turning up at the table with a draft free-trade agreement. According to the UK’s negotiator Robert Frost, the EU is demanding that controversial areas such as fisheries and state aid are resolved before legal texts can be devised.

Meanwhile Boris Johnson’s positioning is equally hard ball. His government is proposing to introduce legislation that would effectively write into British law the negation of much of the deal it reached with the European Union only last year over how Northern Ireland’s border with the Republic of Ireland would be treated after Brexit. It was Mr Johnson’s decision to concede ground on the issue at a meeting with Irish Premier Leo Varadkar last October that enabled a negotiated settlement. Without giving way on Northern Ireland, the UK would have left with the so called dreaded ‘No-Deal’.

Now, ‘No-Deal’ rears its ugly head once again. The UK and the EU must negotiate a new trade treaty by the end of this year, to replace the one held while Britain was a member. Without an agreement the UK will revert to the baseline terms of the World Trade Organisation – which could mean a sharp loss of competitiveness. The EU accounts for a far greater share of the UK’s exports than vice versa, so it appears to have greater negotiating leverage. And yet Mr Johnson has set an October 15^th deadline to reach a deal, while also apparently promising to rip up the last one.

The currency markets, with sterling continuing to hold firm against the dollar and the euro, seem to be working on the assumption that Mr Johnson does not mean it and that this is a tactic to give him more negotiating strength and to put his increasingly coherent domestic opponents on the back foot. But he surely will not go through with breaking a treaty he has only just signed. Such a move would take the UK’s international credibility with it.

But then again Mr Johnson might indeed mean it because he and his team truly believe that the advantages of a ‘No Deal’ Brexit would outweigh the disadvantages. The critical stumbling block is not over trade per se but rather state aid; how much individual governments can subsidize companies and industries. Such aid can tip the scales of trade competition.

The Johnson/Cummings team believe it must have discretion “to invest without fetter in high tech, digital, artificial intelligence and the full gamut of the so-called fourth industrial revolution”. The following quote from Dominic Cummings describes his article of faith “Countries that were late to the industrial revolution were owned/coerced by those early to it. The same will happen to countries without trillion-dollar tech companies over the next 20 years”.

As far as Cummings and Johnson are concerned, the economic hit from breaking off trade terms with the EU would be a price worth paying; “If that means they acquire what they see as the precious freedom to direct state resources to the sectors and businesses on which our future success will hinge”.

As well as Brexit, the US Presidential elections are imminent, US stock markets are close to all-time highs despite the pandemic, the Fed no longer has an inflation target and has stated that interest rates will not rise for at least three years, and UK shares remain depressed.

Pound rebound

The UK post lockdown rebound has lagged European, US and Asian stock markets partly because of the uncertainty regarding the possibility of further lockdowns to halt the spread of Covid-19 and also partly because the pound has been doing well. The FTSE 100 is dominated by multinational companies, whose profits look much better when the pound is weak, but the latest round of dollar weakness brought the pound to within touching distance of its strongest level against the US currency since early 2018, months before the bid to win parliamentary approval for Brexit degenerated into a crisis.

Politically, the US elections will also have an impact on markets and economies. If the incumbent loses and the majority in Congress changes as is currently predicted by the polls, the period between the election and the inauguration of the next President and Congress could lead to significant uncertainty and volatility. We think any such impact should be short-lived and would represent a buying opportunity.

Economically of course the biggest impact will come from the path of the Covid-19 pandemic and the outcome of the vaccine trials. There are some positive signs about the prospects for vaccines, in particular the mRNA vaccines in development by Pfizer/BioNTech and Moderna. Results from the Phase 3 trials are expected in the next few weeks. It is clear the impact of the pandemic will be with us for the next 12-18 months as second and further waves of the disease take place and as we learn about the likelihood of vaccines. It does appear that the issue has been complicated by politics as doubt about the safety and approval processes of the vaccines can only delay their widespread use and the positive effect it should have.

Different countries are at different stages in coping with the disease. China and other major countries in Asia seem to have it under control with the more stringent measures they have taken. In the US and Europe, it seems as if countries like Germany, which have the ability to provide testing and health care in such a way as to enable people to go about most of their daily activities, are showing the way in which we can head towards stabilisation and eventual recovery. Daily infections and deaths in Germany are currently less than one third of those in the UK.

Humans have lived with infectious diseases for at least 15,000 years. Unfortunately, when a new infection appears, people are naturally fearful but after a fairly short period of time it becomes clear that we are not trapped in a science fiction movie after all and that the human race will survive. Germany’s leading virologist Professor Hendrik Streeck, Director of Germany’s Institute of Virology at Bonn University, recently stated “It is time to stop all this alarmism. We must realise that Covid-19 will be with us for a long time and we must learn to live with it, but we can outsmart the virus using all our knowledge. The virus is less dangerous for a host of reasons. I neither trivialise the virus, nor do I dramatise it. We must find a proper balance. We cannot keep shutting down our daily lives and paralysing everything.”

Test of nerves

With the recent uptick in coronavirus cases vaporising hopes of a ‘V-shaped’ economic recovery, volatility has returned to test investors’ nerves. Stock markets are see-sawing between the conflicting influences of uncertain economic fundamentals largely brought about by Covid-19 and the unprecedented fiscal and monetary stimulus in response. Various geo-political concerns, including US-China tensions, Brexit negotiations and the November US Presidential election, are adding a twist. Some investors believe there is disconnect between the stock market and the economy and are raising cash levels. Yet history suggests there is little to be gained from banking on short term market predictions. Investors need to remain invested and use market volatility to their advantage.

Our journey to generating value over the long-term is guided by the fundamentals. That is why we continue to be positive about the Clarion Portfolios and the funds and companies in which they invest which have the quality and strength to prosper over time.

The value of many companies has increased because of the Covid-19 pandemic. This may seem odd but lockdowns, quarantines, and the stay, work and play at home priority has accelerated the digital transformation of economies. For companies operating in these areas the pandemic is a positive for their prospects. In the second quarter of 2020, the worst of the lockdown, Apple grew revenues by 11%, Amazon by 41% and Thermo Fisher, which provides laboratory equipment to help manage the Covid Crisis, grew at 10%. These growth rates are much better than expected at the start of the year.

A number of UK Companies are also doing well and in stock market terms are now worth more than at the start of the year. Astra Zeneca on vaccine hopes, Ocado because its technology facilitates the move to online grocery shopping, online retailers AOWorld and Asos because shoppers want to stay away from bricks and mortar stores, IT services company Computer-Centre because of an increase in working from home, to name but a few. So, for every cruise liner, airline and restaurant that is being negatively impacted, there are many other companies that are benefiting.

But for now, for many reasons we are all facing a difficult few months but we will emerge stronger and more positive, and in a better place. We wish all our clients, families, and friends a safe passage through the winter months that lie ahead and we look forward to sharing a brighter future.

Thank you for your continued support and we hope you enjoy reading our regular updates.

Keith W Thompson

Clarion Group Chairman

September 2020

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