“The only thing we have to fear... is fear itself”

Author name:: By Ken Howard
Job title:
Date posted:: 30 March 2020, 3:45 PM

I have been thinking about writing this article for the last couple of days, trying to find the right balance between; the ‘DOOM’ of an economic depression, and the ‘MAGIC’ of a V-shaped economic recovery, and then my son, who is 11-years-old, walks by singing the song “Life is fun”.

The video clip features two animated characters, one positive (+) and one negative (-), singing a chorus;

(+) We are young,

(-) We still die,

(+) Life is fun,

(-) Until you die,

(+) We gotta make the most of it, make the most of it,

(-) Because you’ll die,

Anyway, I would like to share a few thoughts on how I am handling the current uncertainty.

To start with, the honest answer has-to-be, no-one knows the future and that includes me. So, these ideas are just a framework around which I am trying to understand what’s happening, make decisions, assess new data and adapt accordingly.

Right now, ‘The Good’ includes

Australia

1. Testing: currently over 200,000, with circa 10,000 new tests a day,

2. Infection: under 3,700,

Two thirds, are Australian’s returning from overseas with the virus.
Of the remaining third, health authorities have identified the source of the infection for at least half, and are actively contacting everyone who has been exposed to those with the virus (please check the Health Department websites for each State for facts on your local area, and areas you may have visited).
The balance, roughly 600 cases are either still under investigation, or are the result of transmission from an unknown source, which is not good, and why there has been a gradual escalation in restrictions on our ability to work and play.

3. Mortality: anyway I look at it, when I think about what is happening in many other developed economies, the mortality rate, in Australia, is low and a sign that Australia’s healthcare system is currently managing the outbreak, and hopefully it stays that way.

4. Control: It certainly felt like it was too slow to start, but it now appears that more and more Australians are accepting the challenge and Governments are learning, responding and leading.

The Global Economic stimulus

1. Interest rates: In all the major developed economies, interest rates have been cut to zero, central banks are providing liquidity and regulators are allowing banks to grant customers, principal and interest repayment holidays. Some governments have even gone further, stepping in to guarantee the loans of businesses which have been forced to shut down, in response to containing the Coronavirus.

2. Government stimulus: In round terms, Governments of the developed world have collectively committed, circa $10 trillion Australian dollars to support their economies, and it is my guess, should it be required, they would commit trillions more. Certainly, my reading of the GFC recovery period, is that countries like the USA, who bailed out their banks, adopted quantitative easing, and ran trillion-dollar deficits, recovered considerably faster than the more austere countries of Europe.

3. Information and innovation: Whether it is distilleries making hand sanitiser, GM (General Motors) making respirators, or stood down Qantas and Virgin employees going to work at Coles and Woolworths to ensure we have enough food on the shelf, the ability for our society to identify problems and find solutions has never been greater.

‘The Bad’

Well right now, there is a lot bad, but most of it is in the past. The unwillingness to believe that this could happen to us, in our own back yard, and then the slow response as the virus began to spread, has been the seed of our current challenge.

‘The Ugly’

The exponential spread of the virus, in a number of major global economies, including the USA, which at current growth rates, will see a couple of million cases in the next four weeks. As a result, there will be numerous local health care systems inundated with acute cases, that they simply do not have the resources to manage. Hopefully Italy has seen the worst of it, Spain is in the middle of it and New York will somehow find the resources, in time, to limit it.

Framework

1. For the health crisis; once a society adopts strict quarantine, it will take:

Between 4 and 8 weeks for the exponential growth to flatten (I believe, over the last week, Australia has entered this phase)
A further 4 to 8 weeks before for the new daily infection rate approaches zero
A further 4 to 8 weeks before the quarantine can lift.

In other words, this is likely to take between three and six months.

2. For the economic crisis:

Everybody will have to shoulder some of the burden; employer and employee, financier and landlord, supplier and customer, government and business, big and small. Anyway you look at, major developed economies will be missing between three and six months worth of production, and while for some industries there will be catchup, for others, the losses are in the past and they will need to focus on the future.
The Government stimulus packages are about building a bridge, buying time and blocking the points of economic contagion. The goal is simple, you want as many businesses as possible to be able to return to producing the goods and services will all need once the quarantine measures lift.

3. For the share market (all numbers relate to the level of the ASX 200 index)

I have assumed the rally into January / February, was a little bit euphoric and in anticipation of strong growth, so a ‘no growth’ case would require a 10% correction from 7200pts down to 6500pts.
But unfortunately, now, even ‘no growth’ is optimistic and earnings are likely to be 20% to 30% below trend, this financial year and next, for many industries. So, assuming (a) interest rates remain around zero and (b) investors will be focused on an inevitable recovery, ‘fair’ value is likely to be 10% to 20% below the “no growth” scenario, so between 5300pts and 5900pts.
Lastly, given the heightened level of uncertainty and the capacity for both good and bad news to drive investor sentiment, the trading range for the next couple of months is likely to be at a 10% to 20% discount to where it will settle once the quarantine measures lift and investors can asses the damage and the opportunity. So my guess, right now, is that there is a reasonable chance the ASX will have a trading range of between 4000pts and 5400pts, at least for the next couple of weeks.

(I would note that the trading range for the ASX 200, last week was between 4400pts to 5236pts, so maybe I am just rationalising what I have seen, but it is a framework around which I will assess the following week.)

4. For individual investments

There is no-way to time the market or pick the bottom
Buy quality and diversify
Expect dividends to be cut and assume there will be some capital raisings. It’s just not possible for large parts of the global economy to go into some form of shut down, without there being a real risk of disruption to; suppliers, customers, contracts, creditors, debtors etc and not every industry will have a speedy or smooth recovery.
I have been through my preferred, top 50, and cut the 2019 earnings by 10%, 20% 30% and in some cases 50% and then applied a GFC style pricing multiple and this has thrown up around 10 names which are I think are trading at reasonable prices for long term investors.

Clearly there is no way of knowing, with any precision, how things will play out over the next three to six months, but I want to believe, that when the worst of the crisis is over, the market will be well on its way to a recovery (or at least that is the way it has behaved coming out of every other crisis).

On Friday the 10 companies included; Westpac, Macquarie, Amcor, Telstra, plus two property trust SCentre (Westfield Australia) and Unibail-Rodamco-Westfield (call the Westfield global portfolio, times three) both of which are trading close to 70% below the last reported NTA (Net Tangible Assets), plus four international companies; Berkshire Hathaway (B shares), Caterpillar, Intel and Johnson and Johnson.

So, make sure you have enough cash, to meet your own needs for the next couple of years, assuming dividends are cut, and some of the investments you own may require capital to stay in business and thrive in the recovery.

Ask yourself the question, has your strategy changed, is there something you might want the option of doing, something which even just a few short weeks ago may have seemed unnecessary or very unlikely e.g. helping a family member or associate with a business venture.

It is extremely busy right now, but if you have any concerns about your portfolio or strategy, please call 07 3334 4856.

* US President Franklin D Roosevelt said in 1933: “The only thing we have to fear … is fear itself.” Note the Great Depression ran from 1929 to 1939 and Roosevelt was the President from 1933 to 1945 (so Great Depression and the WWII).

Find out more

Ken Howard is a Private Client Adviser at Morgans. Ken's passion is in supporting and educating clients so they can attain and sustain financial independence.

If you would like to learn more about assessing your finances, you can contact your closest Morgans branch.

General Advice warning: This article is made without consideration of any specific client’s investment objectives, financial situation or needs. It is recommended that any persons who wish to act upon this report consult with their investment adviser before doing so. Morgans does not accept any liability for the results of any actions taken or not taken on the basis of information in this report, or for any negligent misstatements, errors or omissions.

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