Here is a weekly COVID-19 investor overview covering virus outlook, economic impact and market insights from portfolio manager Tim Hext of our Bond, Income and Defensive Strategies team.
Watch this short video recorded at Tim’s home office or read the transcript below.
TRANSCRIPT
My name’s Tim Hext. I’m a Portfolio Manager in the Bond, Income and Defensive Strategies team at Pendal Group.
In terms of crystal ball gazing you need to be a very informed medical scientist to know where this [coronavirus outbreak] is all going. And to be totally honest, we don’t know.
We’re quite hopeful that you will see some antiviral drugs help the situation, but we hear very mixed things about the possibility of when a vaccine may come out.
So we have to face the fact that Australia is doing pretty well at controlling this. The economy itself is likely to have some opening up towards the middle of the year — and probably most of the economy open by the end of the year . But it will probably be well into next year before things go back to what we would refer to as normal.
I think in that situation people want to know are we going to be in a recession, are we going to be in the depression? What’s economic growth going to look like?
I don’t think either of those are particularly helpful. In fact, in years to come we might have a new term like hiber-cession to call what we’ve had.
I think the path out of here is going to be reasonably quick early on, but ultimately quite slow and painful. By that I mean the Australian economy is unlikely to return to the sort of activity levels we saw prior to this for a number of years yet.
With that in mind, it’s important to remember that demand and supply are both going to face issues as they try to come back on board.
On the supply side, importantly, a lot of businesses will come back leaner and trimmer than they were before. That’s going to mean a number of things with jobs and also ultimately for inflation.
From the demand side, of course a number of workers are unlikely to go back to where they were before.
Right now there’s 20% less hours being worked across the economy and unemployment is likely to go up to 10% in the near term and unlikely to really come back to the levels we saw before the crisis for at least another three or four years.
The Reserve Bank has already told us interest rates are going to be stuck down here for probably at least three years. And our view is that it’s considerably longer than that.
Bond markets outlook
So the way we look at bond markets is they’re going to continue to remain very well supported.
There is going to be a continuation of the search for yield that we saw beforehand, but from a lower base obviously.
I think people are going to be far more cautious about the sort of credit they keep on. The way the credit cycle works — like equities, the longer you go, the more upbeat it gets and it’s going to take a lot of time to get back there.
So we continue to like being long duration in bond markets across our portfolios.
We still have a tendency towards government and the more liquid parts, but we do acknowledge that investment grade credit — the more solid credits — have actually now finally for the first time in four or five years reached what we would call good value.
So we’re looking to be overweight duration and overweight investment grade credit, but still avoiding a lot of those high yield credit scores as the default cycle will be running strong for the next year or two.
Here’s the latest Aussie equities outlook from Pendal’s head of equities Crispin Murray (pictured above), reported by portfolio specialist Chris Adams.
SENTIMENT continues to improve in regard to managing the virus – both domestically and abroad.
The debate has now shifted to how and when containment measures can be rolled back.
Real-time analysis suggests economies may have hit their bottom on an absolute basis. But there is still great uncertainty over what that actually means in terms of numbers and for earnings.
This uncertainty, coupled with a strengthening pipeline of capital calls, saw the Australian market come off -4.4% (S&P/ASX 300) last week after a strong bounce.
Health update
Global daily new cases have plateaued.
A gradual decline in Europe and the US has been offset by a pick-up in places like Latin America. But an end to the increasing growth rate, coupled with signs that hospitals are now coping better in the countries most affected, seems to have improved sentiment.
Nevertheless, risks remain. The US recorded its highest daily new case growth over the weekend, while Singapore is scrambling to control a second wave of infections among foreign workers.
This potential second wave of infections is fundamental to the debate about how quickly economies should re-start.
At this point places like the US seem to be managing to a certain case-load that can be dealt with by the medical infrastructure.
A material spike in infections prompted by an easing of restrictions could quickly erode market confidence.
The scale of testing in the US has increased — it now out-strips South Korea in terms of per-capita tests. This means US authorities should be able to identify a new outbreak and contain that pocket, rather than reverting to nation-wide measures.
New cases in Australia have plateaued at a very low level. The scaled roll-back of measures announced by Western Australia could serve as a model for the rest of the nation. The next few weeks remain critical.
Economics
We continue to see a grand tussle between the largest and sharpest economic downturn in our investment careers – set against the largest policy package we have ever seen.
A unique feature of this downturn – apart from its scale – is that both the industrial and service sides of economy are equally hit.
This is very different to the GFC where the hit to services was more muted. This has implications for the measures that can be used to stimulate a recovery; services are typically slower to recover.
This week several key data points will provide more colour around the scale of the economic hit. US payrolls are expected to see a further 15-20 million increase in jobless people.
The US has topped up its policy package with a further $484 billion in funding for small businesses.
This is probably the last US package we will see for a couple of weeks. There is more in the pipeline relating to what follows on from the initial eight-week program of individual payments which requires further debate and negotiation.
There is also some talk of how stressed States are supported. This issue remains at risk of a financial spot-fire.
Potential risks
Control of the virus and the policy response has seen sentiment improve from where we were a month ago — for good reason.
The possible worst-case scenarios from a few weeks ago now appear largely off the table. However we remain mindful of two potential headwinds.
Firstly, people are yet to comprehend the full effect this episode could have on earnings — not only in directly-impacted parts of the market but where this flows into other companies and sectors.
Secondly, there could be an unforeseen secondary shock from the virus’s impact on demand. One potential example could be Europe, which is still haggling over the best way to deal with the crisis.
There is resistance to the idea of jointly-backed “Coronabonds”. Disagreement about how and where aid is focused may put further pressure on the structure of the EU. This is a tail risk. The ECB, which can move more swiftly, is likely to step up QE to help alleviate stress.
Oil
The oil market remains another source of risk.
The May contract for West Texas Intermediate going negative was a high profile, though largely technical issue. It was possibly related to poor contract management by oil-tracking ETFs.
Nevertheless, it does reflect a huge imbalance in supply and demand. Around 27 million barrels per day (mbpd) are rapidly filling available storage. This surplus drops to around 11mbpd once OPEC cuts in May.
We have seen around 5-6mbpd already shut down, but need the same again. This is likely to see material oil price volatility until someone is forced to shut production.
That said, there are signs a shut down in capacity could mean oil goes from famine to feast quite quickly. Oil companies have slashed capex, with no capital made available for new projects.
Given the natural annual production decline rate of 5% from oil wells, supply could quick shift back to deficit once the current storage is cleared. If we start to see demand pick up again as containment is relaxed, oil could be back in production deficit by the end of this year. One area to watch.
Markets
The impact of capital raising is a key issue – more than $8 billion has been raised so far and there’s more to come. The standard discount seems to be around 8%.
But given the money is largely paying down debt or bolstering liquidity – rather than funding growth – the discount is often offset by the dilutive effect.
Being selective is critical here; there are some reasonable opportunities. However the scale of raisings is likely to weigh on the market in coming weeks.
REITs (-8.0%) fell the furthest last week. Investor caution was driven by the twin issues of commercial rents and expectations of further capital raising. The rent issue bears watching.
There are signs many commercial tenants are withholding rent payments regardless of whether they have closed stores or are eligible for government relief. This is an almost chaotic situation with important implications for both landlords and retailers as it is worked through.
Industrials (-7.1%) were also weak. Defensives generally did better than the broader market. Utilities were only down -1.7% and Consumer Staples -3.9%.
Iron ore miners are serving as defensives in this environment. Resilience here, coupled with outperformance by the gold miners, saw Materials (-2.4%) outperform.
Energy (-3.6%) outperformed despite ructions in the oil market.
There are signs investors are thinking about which well-placed domestic companies may benefit from easing of restrictions on the domestic economy.
Pendal Concentrated Global Share Fund Hedged (APIR: RFA0031AU, ARSN: 098 376 151)
Effective 1 May 2020, the buy-sell spread of the Pendal Concentrated Global Share Fund Hedged (Fund) will decrease from 0.50% (with 0.25% payable on application and 0.25% payable on withdrawal) to 0.40% (with 0.20% payable on application and 0.20% payable on withdrawal).
The buy-sell spread is an additional cost to you and is generally incurred whenever you invest in the Fund. The buy-sell spread is retained by the Fund (it is not a fee paid to us) and represents a contribution to the transaction costs incurred by the Fund such as brokerage and stamp duty, when the Fund is purchasing and selling assets. The buy-sell spread also reflects the market impact of buying and selling the underlying securities in the market.
Importantly, the buy-sell spread helps to ensure different unit holders are being treated fairly by attributing the costs of trading securities to those unit holders who are buying and selling units in the Fund.
The Fund’s buy-sell spread will decrease to reflect a reduction in the Fund’s brokerage costs.
As transaction costs may change depending on various factors such as market conditions and brokerage costs, buy-sell spreads may also change without prior notice. You should therefore review current buy-sell spread information before making a decision to invest or withdraw from a Fund.
Please refer to our website www.pendalgroup.com and click ‘Products’ for the latest buy-sell spread for each fund.
Pendal Concentrated Global Share Fund No.3 (APIR: BTA0056AU, ARSN: 087 593 299)
Pendal Concentrated Global Share Fund No.3 – Wholesale B Class (APIR: BTA0270AU, ARSN: 087 593 299)
Effective 1 May 2020, the buy-sell spread of the Pendal Concentrated Global Share Fund No.3 (Fund) will decrease from 0.50% (with 0.25% payable on application and 0.25% payable on withdrawal) to 0.40% (with 0.20% payable on application and 0.20% payable on withdrawal).
The buy-sell spread is an additional cost to you and is generally incurred whenever you invest in the Fund. The buy-sell spread is retained by the Fund (it is not a fee paid to us) and represents a contribution to the transaction costs incurred by the Fund such as brokerage and stamp duty, when the Fund is purchasing and selling assets. The buy-sell spread also reflects the market impact of buying and selling the underlying securities in the market.
Importantly, the buy-sell spread helps to ensure different unit holders are being treated fairly by attributing the costs of trading securities to those unit holders who are buying and selling units in the Fund.
The Fund’s buy-sell spread will decrease to reflect a reduction in the Fund’s brokerage costs.
As transaction costs may change depending on various factors such as market conditions and brokerage costs, buy-sell spreads may also change without prior notice. You should therefore review current buy-sell spread information before making a decision to invest or withdraw from a Fund.
Please refer to our website www.pendalgroup.com and click ‘Products’ for the latest buy-sell spread for each fund.
Pendal Concentrated Global Share Fund No.2 (APIR: RFA0821AU, ARSN: 089 938 492)
Effective 1 May 2020, the buy-sell spread of the Pendal Concentrated Global Share Fund No.2 (Fund) will decrease from 0.50% (with 0.25% payable on application and 0.25% payable on withdrawal) to 0.40% (with 0.20% payable on application and 0.20% payable on withdrawal).
The buy-sell spread is an additional cost to you and is generally incurred whenever you invest in the Fund. The buy-sell spread is retained by the Fund (it is not a fee paid to us) and represents a contribution to the transaction costs incurred by the Fund such as brokerage and stamp duty, when the Fund is purchasing and selling assets. The buy-sell spread also reflects the market impact of buying and selling the underlying securities in the market.
Importantly, the buy-sell spread helps to ensure different unit holders are being treated fairly by attributing the costs of trading securities to those unit holders who are buying and selling units in the Fund.
The Fund’s buy-sell spread will decrease to reflect a reduction in the Fund’s brokerage costs.
As transaction costs may change depending on various factors such as market conditions and brokerage costs, buy-sell spreads may also change without prior notice. You should therefore review current buy-sell spread information before making a decision to invest or withdraw from a Fund.
Please refer to our website www.pendalgroup.com and click ‘Products’ for the latest buy-sell spread for each fund.
Pendal Concentrated Global Share Fund (APIR: BTA0503AU, ARSN: 613 608 085)
Effective 1 May 2020, the buy-sell spread of the Pendal Concentrated Global Share Fund (Fund) will decrease from 0.50% (with 0.25% payable on application and 0.25% payable on withdrawal) to 0.40% (with 0.20% payable on application and 0.20% payable on withdrawal).
The buy-sell spread is an additional cost to you and is generally incurred whenever you invest in the Fund. The buy-sell spread is retained by the Fund (it is not a fee paid to us) and represents a contribution to the transaction costs incurred by the Fund such as brokerage and stamp duty, when the Fund is purchasing and selling assets. The buy-sell spread also reflects the market impact of buying and selling the underlying securities in the market.
Importantly, the buy-sell spread helps to ensure different unit holders are being treated fairly by attributing the costs of trading securities to those unit holders who are buying and selling units in the Fund.
The Fund’s buy-sell spread will decrease to reflect a reduction in the Fund’s brokerage costs.
As transaction costs may change depending on various factors such as market conditions and brokerage costs, buy-sell spreads may also change without prior notice. You should therefore review current buy-sell spread information before making a decision to invest or withdraw from a Fund.
Please refer to our website www.pendalgroup.com and click ‘Products’ for the latest buy-sell spread for each fund.
Pendal MicroCap Opportunities Fund
Important Updates
Pendal MicroCap Opportunities Fund (APIR: RFA0061AU, ARSN 118 585 354)
Effective 23 April 2020, the Pendal MicroCap Opportunities Fund (Fund)’s buy-sell spread will decrease from 1.50% (with 0.75% payable on application and 0.75% payable on withdrawal) to 1.40% (with 0.70% payable on application and 0.70% payable on withdrawal).
The buy-sell spread is an additional cost to you and is generally incurred whenever you invest in the Fund. The buy-sell spread is retained by the Fund (it is not a fee paid to us) and represents a contribution to the transaction costs incurred by the Fund such as brokerage and stamp duty, when the Fund is purchasing and selling assets. The buy-sell spread also reflects the market impact of buying and selling the underlying securities in the market. Importantly, the buy-sell spread helps to ensure different unit holders are being treated fairly by attributing the costs of trading securities to those unit holders who are buying and selling units in the Fund.
The reduction in the Fund’s buy-sell spread reflects continuing improvement in trading conditions.
Pendal will continue to monitor market conditions and review and update the buy-sell spread regularly as required. You should therefore review the current buy-sell spread information before making a decision to invest or withdraw from a Fund.
Please refer to our website www.pendalgroup.com and click ‘Products’ for the latest buy-sell spread for each Fund.
Global improvement in health data has prompted a shift in the COVID-19 debate to how quickly economies can begin to re-open.
Here’s the latest Aussie equities outlook from Pendal’s head of equities Crispin Murray (pictured above), reported by portfolio specialist Chris Adams.
GLOBAL improvement in the health situation underpinned a 1.9 per cent gain for the S&P/ASX 300 last week.
This has prompted a shift in the COVID-19 debate to how quickly economies can begin to re-open.
The divergence in health outcomes here versus Europe and the US is becoming increasingly important. It gives Australia the option of an “elimination/suppression” strategy rather than herd immunity approach. This means a more expansive initial re-opening of the economy is possible.
This has important implications for the outlook at companies and for portfolio construction.
Health update
Global new daily cases have stabilised and the rate of hospitalisations in the US has continued to fall this month.
This is important because it opens discussion on how economies ramp up again.
However, it must be borne in mind that in some countries such as Spain, the rate of reduction in new cases is far slower than the original rise. In other words, the rise and fall has not been symmetric.
That means total cases must still be managed carefully against health care system capacity.
We also continue to monitor place such as Japan to help understand the risk of a second wave of infections as economies open up.
There was some excitement last week around antibody tests and medical trials – notably for Remdesivir. Nothing conclusive could be drawn. Samples sizes were too small or control samples not robust enough for policy makers to change tack in response.
But the market’s optimistic reaction was instructive and demonstrates how much liquidity there is sloshing about, looking for any excuse to find a home.
That said, it’s becoming evident from intensive care units in New York, that throwing everything at a patient in terms of potential treatments is having success in saving lives – even if the reasons why are not clearly understood. This is important because it provides some help in managing the mortality rate.
For countries such as US and Europe there is no option but to adopt a herd immunity strategy. The balance here is how much of the economy can be opened up while keeping the case load manageable. Anything that helps dampen the case load and its severity means fewer economic restrictions need to remain in place.
The rate of daily new cases in Australia does look somewhat more symmetrical — and has fallen sharply. If the virus can be effectively supressed, this allows the option of locking down borders but opening up the domestic economy more than would be the case in a country pursuing herd immunity.
Policy and economy
There was little news-flow on the policy front last week, however economic data is starting to filter through.
Business confidence indicators have fallen twice as far as during the GFC – although we are likely to see a snap-back in response to falling infection rates. Nevertheless it is becoming apparent from talking to companies that we are unlikely to see a rapid return to business-as-usual in terms of structure.
A degree of shell shock may prompt a more cautious approach for a period. This could feed through to investment, capital structures and business models.
Many companies are unlikely to reinstate their furloughed workforces in full. This is important to keep in mind when we think about the trajectory at which the economy will recover from its current position.
Markets
The US market has surged in recent weeks and recaptured almost 60% of its fall. It has returned to the levels of mid last year. Some are asking if this is credible given the economy may contract 10% or more this year.
A large proportion of the recovery is also concentrated in a relatively small number of growth tech stocks.
We remain relatively cautious in the near term given uncertainty around earnings and the potential sticker shock.
But we are also mindful of the tide of liquidity looking for home. This has helped propel the growth stocks – given a lot of money has been chasing stocks with the greatest earnings certainty.
We are seeing large divergences in relative valuations and a lot of mis-pricing. It is a good environment for active managers.
Australia’s market has not rebounded at the same rate as the US. We are back to the point of the late-2018 low.
This is partly because we don’t have the big growth stocks to dominate performance. However we still think the Australian market is well positioned versus other overseas markets given the potential differences in the path of economic normalisation.
COVID-19 scenario analysis framework
Pendal’s Australian equities team is continuously monitoring and updating its COVID-19 scenario framework.
The team continues to meet companies to understand first-hand what they face and how they are reacting. This included more than 200 company meetings in March.
We have been using a framework of potential scenarios to position the portfolios during recent events.
Our current view on the four key inputs into our scenario analysis are:
Case load and severity: Australian case numbers, growth rate and severity are well within the capacity of the health system. Better outcome relative to some other parts of the world, though case number growth is slowing in most major economies.
Depth and duration of economic hit: Still highly uncertain, but fiscal response and avoidance (so far) of level 4 restrictions critical in containing economic damage.
Nature of economic re-start: Still unknown. Debate is whether government pursues “elimination/suppression” or “mitigation” strategy. Australia has the option of the former, due to geography, political structure and current control over virus spread. This is not the case in the US or Europe.
Timing of medical breakthrough: Anti-viral studies still inconclusive. Optimism around vaccines is high, but length of time until widely available remains an issue.
Here is a downloadable PDF covering the full COVID-19 scenario analysis from Pendal’s equities team:
What’s the outlook for bonds right now? Pendal’s Head of Bond, Income and Defensive Strategies Vimal Gor gives a snapshot here in a video interview with online business channel Ausbiz on April 17, 2020.
Ausbiz is Australia’s newest online business channel. Watch here: www.ausbiz.com.au.
Ausbiz TV interviewer: I know early into this piece when we were at the cusp of these lockdowns and the work-from-home scenarios … you were talking about the need for massive fiscal responses. You said unimaginable amounts, maybe 20% of GDP or more. That’s not quite the extent that we’ve seen clearly in Australia, but that $2.3 trillion package coming out from the Fed last week — is that the kind of, do all, take-no-prisoners response you had been expecting or are you still expecting more?
Vimal Gor: Well in the US, if you take the monetary and the fiscal stimulus and normalise it and add it together, it’s about 40% of GDP. It’s so large, it makes your brain hurt to think about this size.
To give you an idea, if you’re a small company in the US, less than 500 people, the government is now going to pay your wages, rent and utilities, it says for two months. So you don’t have to any outgoings for two months.
Now that’s going to be fine if the duration of the coronavirus is quite short. If we drag this out for three, six, 12 months from now, well then that’s not going to be enough. And that’s the problem.
What the central banks and what the fiscal authorities are doing is they’re providing liquidity into the system, but we’re not solving the solvency issue at all.
You’re still going to have so many companies going bankrupt over the next few quarters.
Interviewer: Absolutely. What is your gut telling you, Vimal? Do you think that the worst of this is over? And just as a side note, we have had this unemployment read coming through here in Australia — the March unemployment rate’s at 5.2% — that’s better than the consensus of 5.4%. But when it comes to talk about economies opening up potentially, what are you feeling about where we’re at in this timeline?
Vimal Gor: The US number is expected to go from about 5% to about 20%. The April numbers are going to be roughly about 20% unemployed in the US. So when we’re talking 5.2, 5.5, they’re rounding errors. It’s completely irrelevant in the broadest trend of where things are going.
In terms of when we can reopen, obviously there’s a big clamour to reopen. Trump talked about the cure being worse than the disease and that’s true on an economic viewpoint. And right now we are purely looking at the lockdowns in terms of what it means to the population, in terms of deaths from the virus.
But there are also deaths from what happen if we lock down the economy. There’s poverty — look at India, which is in a full lockdown and it’s just been extended again. [consider] people in poverty there who are at risk of dying because they’re unable to get food.
So there are economic impacts as well. I think at the moment we’re clearly looking at the medical side — we’re not looking at the economic side — and there needs to be a full realisation of how bad the lockdown is for people and the communities and also health levels.
So I think that there’s both sides of the argument that needs to be looked to this. But I don’t see a quick re-opening. Also from the reading I’m doing we’re 12 to 18 months away from a vaccine. So we’re going to be living with this for a long time.
And as I mentioned, the solvency issues haven’t been dealt with, they’ve just been pushed further into the future. So I think this is going to be with us for a long time yet.
Interviewer: So given all of that, where to for global bond yields now do you think?
Vimal Gor: ,Oh that’s the easy one. They go to zero. Global bonds, apart from maybe Italy or Spain or Portugal or some of the smaller peripherals — pretty much global bonds around the world are going to zero. Central banks need them at zero.
We have to also accept and acknowledge the fact that bond yields going down doesn’t really help. It doesn’t really cushion the impact of the virus and the economic data, but it [also] doesn’t do any harm and that’s really where we are now.
It’s about doing anything that doesn’t do harm to help the economies along and pushing bond yields down to zero. It’s supporting them at those levels as we’re doing mass issuance across the world. It’s the only thing they can do. They can’t allow bond yields to sell off because that would have a slowing impact in the economy.
One of the issues for the US is, if your currency is weak, your currency’s strengthening, and your equity market’s going down — and then you get bond yields selling off — well then all three parts of your financial positions are tightening, and that’s really bad.
So they need to hold bond yields down — and they will hold bond yields down. We’re seeing the RBNZ talking about negative rates, RBA in any size at 25 basis points in three-years. The size of the programs we’re seeing in the US — to give you an idea, in the last QE program in the US they were buying about 80 billion a month. They were buying 75 billion a day, just last week.
I mean the size of the packages are so large and they have one aim, and that’s to get bond yields to zero across the world.
Pendal MicroCap Opportunities Fund
Important Updates
Pendal MicroCap Opportunities Fund (APIR: RFA0061AU, ARSN 118 585 354)
Effective 16 April 2020, the Pendal MicroCap Opportunities Fund (Fund)’s buy-sell spread will decrease from 1.60% (with 0.80% payable on application and 0.80% payable on withdrawal) to 1.50% (with 0.75% payable on application and 0.75% payable on withdrawal).
The buy-sell spread is an additional cost to you and is generally incurred whenever you invest in the Fund. The buy-sell spread is retained by the Fund (it is not a fee paid to us) and represents a contribution to the transaction costs incurred by the Fund such as brokerage and stamp duty, when the Fund is purchasing and selling assets. The buy-sell spread also reflects the market impact of buying and selling the underlying securities in the market. Importantly, the buy-sell spread helps to ensure different unit holders are being treated fairly by attributing the costs of trading securities to those unit holders who are buying and selling units in the Fund.
The reduction in the Fund’s buy-sell spread reflects continuing improvement in trading conditions.
Pendal will continue to monitor market conditions and review and update the buy-sell spread regularly as required. You should therefore review the current buy-sell spread information before making a decision to invest or withdraw from a Fund.
Please refer to our website www.pendalgroup.com and click ‘Products’ for the latest buy-sell spread for each Fund.