John Husselbee

Surviving the Coronavirus bear market: lessons from history

John Husselbee

There are moments in horror movies when you might not only cover your eyes but also forget it is only a film and you will soon be back in the real world. On occasions, investors can get the same feeling when watching stock markets.

We have experienced huge turbulence in global markets prompted by the Coronavirus (COVID-19) pandemic and the spat between OPEC and Russia over oil production. This included a 10.87% fall in the FTSE 100 – what I call the 10 O’Clock News index – in just one day (12 March). 

This is the fourth bear market of my career and while the catalysts are always different, there are clear similarities that we expect to see this time as well – although, like everyone else, I cannot say exactly when that will be. Without being flippant, this is not the end of the world and things will recover – market particpants are currently attempting to bridge the gap between reality and perception when it comes to the ultimate impact on growth and that will lead to abundant debate over U versus V-shaped recoveries, and other letters beyond that.

So far, markets have treated the pandemic as a classic growth scare and reacted in typical bear fashion: the difference to previous declines has been the speed, with the slowest bull run in history quickly giving way to one of the rapidest bear markets. Against this backdrop, we have seen emergency policy responses from central banks in cutting interest rates to record lows and providing much-needed liquidity and lines of credit, with none of the moral hazard concerns that muddied the situation around banks in 2008.

With many businesses threatened as countries enter lockdown, we would expect much more of this to come. On top of huge monetary stimulus, the US government has already set out plans for a $2 trillion fiscal package and there is talk this could ultimately total close to $3 trillion – and we will come back to some of the longer-term implications of this later.

Shorter term, there remains huge uncertainty and it is imperative we avoid the panic that has overtaken markets. It is useful to put dramatic, short-term events into a long-term perspective: over Monday 19 October and Tuesday 20 October 1987, for example, the FTSE 100 fell 23% as Black Monday hit, but over the subsequent five years it produced a total return of 74.8%.

Bull markets ultimately last far longer than bear markets and these falls become mere blips on performance graphs the further back in history you go.

Another message to get across is that falling markets will always feel uncomfortable but a drawdown only becomes a loss when investors crystallise it by selling. Again, looking at history shows many of the worst days in markets are often followed by some of the best and selling out means missing these recoveries. If you take the FTSE 100 stretching back to 1984, there have only been nine negative years out of 36, meaning positive 12-month periods are four times more likely. The average annual maximum drawdown over the period is 14% but in the majority of cases, the index ended that period in positive territory.

What previous bear periods have taught us is that staying calm is vital and getting caught up in the fear and greed-inspired push and pull of volatile markets can be dangerous. No one can control markets but we can control our own emotions – and when it comes to investment, this means falling back on a robust, consistent and repeatable investment process.

Equity markets have consistently proved the best way to generate real returns but they rarely ascend in a straight line and we have to expect corrections on the path to long-term reward. Our focus remains on patient investing – the winning by not losing we talk about so often – and what this requires is the ability to look through short-term periods and keep faith in the long-term process.

In terms of our portfolios, we are in close contact with our underlying fund managers and are comforted – as odd as it might sound – that most are currently doing nothing in terms of buying and selling. All our managers are selected on the basis they have successfully kept to a certain style over the long term and any sudden shifts in approach would raise a red flag. What we are seeing them do is forensically revisiting their portfolios to ensure the case for each stock remains intact and we would expect many to take advantage of cheap valuations in the months ahead.

Warren Buffett, as perhaps the world’s most famous investor, is finding himself quoted more often than ever in these troubled days and his claim that ‘the best new investment idea is often to buy more of what you already own’ is likely to prove particularly apt for many of our managers over the course of 2020.

In terms of our own asset allocation, we have been neutral since October 2018 when we pared back our US equity exposure, favouring areas where we see the best value – namely Europe, Japan Asia and emerging markets. We have also maintained a weighting in bonds for diversification, with a bias towards credit and high yield, and alternatives via hedge funds and absolute return vehicles.

At any point in time, our tactical asset allocation ranges from one to five, with one being the most bearish on markets and five the most positive. While the speed of recent events meant we were uanble to move from neutral down to one for protection, we believe current positioning gives us scope to take advantage of increasingly cheap equity valuations as we look forward, increasing risk as we move up to five.

We are facing difficult times ahead but if the UK is on similar pathway to China, Italy and Spain, there is at least some clarity there – however challenging this might be, both personally and for markets. As we start to see coronavirus cases fall, people will naturally ask what comes next as we all regain our bearings in a much-changed world.

Coming back to that huge monetary and fiscal stimulus package, we would suggest trillions of dollars poured into the US might bring an end to recent dollar strength for example and a period of weaker greenback would potentially be positive for emerging markets.

Meanwhile, if we go back to a similar period of government largesse, in the wake of the Global Financial Crisis, a major fear was that quantitative easing would spark inflation but, ultimately, the forces of globalisation and technology were enough to keep it in check. Technology is more embedded than it was then, however, and we might see companies increasingly eschew global supply chains and seek more local suppliers in a post-coronavirus world, both of which would put pressure on inflation.

Widespread onshoring would also have implications for issues such as climate change, and these are all things companies – and, of course, our underlying fund managers – will need to consider when we finally come out of these challenging days and can start looking to the future.

Buy low, sell high is one of the cornerstones of our strategy but data show the average investor continues to do the opposite. We feel the coming months will allow us to do exactly this while remaining within existing risk parameters and suitability requirements. We are not there yet but, looking back at this period in a year’s time, we would not want to rue missing a great opportunity to buy low. In the meantime, we continue to urge everyone to stay at home and, in investment terms, stay the course.

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Monday, March 23, 2020, 11:39 AM