What To Make of the Fastest 10% Decline In History

By Robert Serenbetz; Multi-Asset Solutions team of New York Life Investment Management

A significant increase in the spread of COVID-19 has triggered a market selloff. We were already concerned for the prospects of the global economy and anxious about market valuations at the start of the year. The uncertainty surrounding the spread of the virus has increased the risk that the economy underperforms pulling risk asset prices down with it. It has become clear (as we wrote in early February) that the coronavirus is now infecting the bull market.

This is only the beginning

Many market participants have discussed the prospect of a V-shaped recovery – a short-term decline in economic growth followed by a rapid recovery. We find this hard to believe. At best, investors should expect a U-shaped hit to global growth – a stagnation before any eventual recovery – if not an even more prolonged impact.

Perhaps adding to the negative impacts, many economic indicators that investors traditionally rely on for an accurate read on economic growth will be meaningfully obscured. The current data coming out of China is not encouraging. Economic activity in China has begun to halt – the longer it takes for activity to normalize, the more impact on supply and demand.

As ever, no one knows how the virus and its economic and market impacts will unfold from here.  Factoring in Thursday’s pullback, equities look expensive and vulnerable to policy mistakes and shifts in sentiment. For evidence to that effect, we continue to monitor:

1. COVID-19’s impact numbers and geographic spread
2. Alternative proxies for economic activity
3. The impending responses from governments and central banks.

Is it time to buy?

Normally, a 10% decline in the market offers a solid buying opportunity for investors. However, the hit to growth is likely significant, and the situation has the potential to worsen. We have been defensively positioned in our portfolio and we will maintain that position until more clarity is reached. “Buy the dip” is dead.

As we wrote earlier this week: if the contagion continues to extend to new regions, risk assets will continue to be negatively impacted. Emerging markets equity, highly cyclical and most acutely impacted by the virus, would be hardest hit. U.S. bond yields have already experienced meaningful declines, reflecting a global flight to safety. Currency volatility – with the U.S. dollar strengthening asymmetrically against emerging markets and particularly Asian currencies – will persist.

A note on investor behavior

During times of volatility, investors tend to run for the hills. Staying invested is often the best option for overcoming short-term market stress. If you’re confident in your strategy, maintain your position or even add to it as the market moves lower. Alternatively, if you need capital or decide to shift your allocations significantly in a volatile market, be aware of how market conditions will affect your trade.