Last week was one of the worst weeks on record for stock market investors, Richard McCreery writes. In the space of just four weeks the market has gone from record high to bear market at the fastest pace in history (16 trading sessions) and all hope that central banks are able to prop up asset prices has gone.
The Fed’s ‘put’ has gone kaput. The ECB’s attempt to stimulate the market by increasing bond purchases was given two fingers by the market, as was Donald Trump’s attempt to calm Americans with his error-strewn speech telling the population not to worry. Not only did stocks plunge but the gold price also dropped as investors sold anything they could in order to raise funds to meet margin calls.
Bitcoin was down a whopping 26 percent at one point on Thursday (March 12). Perhaps most worrying was that Bank of America announced that the US Treasury market, the bedrock of pricing for financial markets, is not as liquid as it should be, leading the Fed to announce $1.5 trillion will be injected into the repo market.
In recent years investors have sailed through Brexit, the election of Trump, a trade war and tensions in the Middle East, and markets marched higher.
The coronavirus is the pin that pricked the ‘everything bubble’, it is perhaps a rare black swan event that can’t easily be halted with liquidity injections or lower interest rates. It comes at a time when assets were priced for perfection, when complacency had taken hold of markets and when corporate balance sheets had been leveraged to record levels. In other words, it couldn’t have come at a worst time.
This brings us on to the next concern: if companies have borrowed too much, default rates in the bond market are likely to climb. Many money managers have said that this is where the real bubble lies. The combined supply- demand shock I spoke of recently might now combine with a credit crunch. Not only will share buybacks be cancelled, thereby removing the main prop for the stock market, but corporate borrowers might be about to discover that rolling over large amounts of maturing debt becomes a lot harder and a lot more expensive. Covenants could soon be breached.
It is possible that lenders will decide they need to compensate for risk once more when deciding how much interest to charge borrowers. The zero-to-one percent range set by the central banks might not cut much mustard as a base off which to price loans that risk not being repaid.
Is there any good news? Well, some investments are already starting to show potential value if you can take a long term view and stomach significant volatility for a while. The share price of some blue chip stocks are back at levels first reached during the 1990s and the recent popularity of ETFs means that, when markets sell off, the quality gets sold along with the rubbish, which might present an opportunity. If this bear market is like former bear markets then investors with dry powder will be able to pick up some good investments at historically low prices. It might be early days in what could be a long downturn (even if Goldman Sachs reckons we’ll be back at record highs by Christmas) but it won’t last forever.
Finally, as well as watching out for defaults and bankruptcies in the weeks to come, investors also need to be ready for whatever governments or central banks attempt to do next. Monetary policy during the past 11 years has encouraged excessive borrowing rather than encouraging us to pay down debt and it has made financial markets incredibly vulnerable to shocks, as we are finding out. I would imagine that all options are on the table and it is entirely likely that they will now try something even more extreme.
Richard McCreery is an investment adviser with over 20 years experience, based in the South of France. www.rmwm.jimdo.comRegulated in France by the Association Nationale des Conseils Financiers (ANACOFI), registration N° E004136. ORIAS member 13000050