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Shaken but not stirred

Tong Kooi Ong & Asia Analytica
Tong Kooi Ong & Asia Analytica • 6 min read
Shaken but not stirred
SINGAPORE (Feb 7): As the coronavirus outbreak continues to spread unabated, the resulting uncertainties and potential economic impact sent stock markets worldwide tumbling, before they recouped some lost ground.
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SINGAPORE (Feb 7): As the coronavirus outbreak continues to spread unabated, the resulting uncertainties and potential economic impact sent stock markets worldwide tumbling, before they recouped some lost ground.

Concerns over the viral outbreak ratcheted higher after the World Health Organization (WHO) declared it a public health emergency of international concern on Jan 30. While most of the confirmed cases are still from within China, the number of countries affected is rising, including, worryingly, the first few cases of human-to-human transmission.

The Chinese government has implemented aggressive measures to contain the outbreak, including a lockdown in affected cities and extended closures for many factories and offices beyond the traditional Lunar New Year break to Feb 10, at least.

Many retail outlets too remain shuttered, including Apple Stores and F&B franchises such as Starbucks and McDonald’s. Major airlines have sharply cut back or suspended commercial flights into and out of China while a growing number of nations, including the US, are imposing travel restrictions. Some in the West are keener on assigning blame and generating fear. What does all this mean?

The outbreak will, without doubt, have serious short-term impact on the Chinese economy. And that will spill over to the rest of the world, given that China is the world’s second-largest economy and biggest consumer of key commodities. The extended disruptions to production output will affect the global supply chain, logistics, trade volumes and overall productivity.

At this point, it is unknown if there will be further extension to the shutdown in China or if the number of cases in the rest of the world will worsen rapidly. Hence, it is hard to quantify the actual economic impact.

These uncertainties mean that investor “risk off” mode will persist in the near term, although the CBOE Volatility Index (VIX) has remained relatively subdued.

Safe-haven assets such as US Treasuries have surged while perceived riskier emerging-market currencies and stocks are being heavily sold down.

We had previously articulated our expectations for stronger global economic growth and why we are shifting the Global Portfolio towards cyclical stocks. For instance, banks will be the main beneficiaries as business and consumer confidence strengthens and the US Treasury yield curve steepens on the back of the more upbeat outlook.

Unfortunately, to quote Margaret Mitchell: “Life’s under no obligation to give us what we expect.” As concerns over the viral outbreak rose, the yield curve has flattened once again, and some segments of the curve are currently inverted. Yields on the benchmark 10-year Treasuries fell as low as 1.5%, from 1.9% at the start of the year. The spread between the 10-year and three-month Treasuries dropped to below zero (at the point of writing).

We suspect the driving force behind the drop in yields for the longer-dated Treasuries is rising market expectations that the US Federal Reserve will cut rates further this year — to counter any impact from the outbreak — more so than fears of an imminent recession.

Regardless, this latest flattening of the yield curve is negative for bank margins, which partly explains the recent weakness in US banking stocks. This is also the reason why we have decided to pare back the Global Portfolio’s exposure to cyclicals and sell our entire holdings in Comerica and JPMorgan Chase.

We are still positive on the broader US market outlook. If anything, there are even more reasons now to expect interest rates to stay lower for longer and monetary policies to remain accommodative. Strong liquidity and relatively low investor leverage will be supportive of stocks, despite the inevitable short-term volatilities.

The recovery in emerging-market assets and currencies, on the other hand, will be delayed. Markets in this region were particularly hard hit, being near the epicentre of the outbreak and more heavily reliant on the Chinese economy.

Case in point: The ringgit, which had been trading stronger against the US dollar since the start of this year — closing as high as 4.05 — is now back above 4.12.

The Global Portfolio recovered from the previous week’s decline, and more, gaining 2.5%. The benchmark MSCI World Net Return index also rebounded, up by a smaller 1.3% for the week ended Thursday.

ServiceNow was our top gainer, up 8.2% last week and 28.3% from our cost. The stock surged after reporting a market-beating set of earnings results for the latest quarter, in which revenue grew 33% y-o-y.

Shares for The Walt Disney Co also fared well, up 3.9% on the back of upbeat earnings results in the latest quarter. Adobe, Alibaba Group Holding and Qualcomm were the other notable gainers. At the other end, Builders FirstSource was the biggest loser, giving back some of its recent gains.

We recently bought back into Apple. We concede that the stock carries asymmetrical risks, in that it will perform in line with good news but could drop sharply on bad news. This is similar to the recent sharp decline in Alphabet’s share price, when its latest earnings results, and particularly the core advertising business, came in weaker than expected. However, Apple is an important market bellwether and one of only three companies currently above the trillion-dollar market cap threshold. In other words, if the broader market performs well — as we expect it to — it is hard to see Apple faltering.

Last week’s gains boosted total returns for the Global Portfolio to a fresh record high of 25%, since inception. This portfolio is outperforming the MSCI World Net Return Index, which is up 19% over the same period.

Tong Kooi Ong is the chairman of The Edge Media Group, which owns The Edge Singapore.

Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks, including the particular stocks mentioned herein. It does not take into account an individual investor’s particular financial situation, investment objectives, investment horizon, risk profile and/or risk preference. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports.

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