INSIGHTS

On February 28, 2020

Market Insight Report: Coronavirus Update

We recently released a note on the developing coronavirus, its likely impact on global growth, and our ultimate thesis that the virus would result in a push back of the widely held view of a return to accelerating global growth due to a short-term reduction in aggregate demand. Currently, numerous companies are reporting ample demand outside of China, hampered by lengthened supply times due to the measures China has taken to halt the spread. While we still cannot take a definite position on the long-term development of the virus given the day-to-day nature of the outbreak, we maintain conviction that this is transitory volatility in a market that wasn’t accurately discounting the ultimate effects of the virus.

Currently, the virus has spread into several countries outside of China and begun spreading rapidly – namely Iran, Italy, and South Korea; which is now the largest concentration of cases outside of Mainland China. Thirty-three S&P 500 companies, as tracked by Bloomberg Intelligence, have revised guidance downward as a result of the virus. This has led to significant volatility in markets, with the S&P 500 losing nearly 9% at time of writing since the growth in cases over the weekend. Still in the early stages of the outbreak, there’s too much uncertainty to make a definitive position on the ultimate extent of the virus globally. The CDC estimates that the incubation period of coronavirus is between 2-14 days but reports out of China suggest the incubation period could be up to 24 days. Various drug makers have announced promising treatments and human trials on a potential vaccine and are expected to begin in the next six weeks, according to U.S. health officials on Tuesday.

What we do know is that there is a significant difference in mortality rates between regions and between age cohorts. While as a whole coronavirus (COVID-19) has a mortality rate of approximately 3.4%, outside of China the mortality rate currently sits at 1.6% -- half of the headline number. This has generally been attributed to China’s higher rates of smoking compared to other populations. For younger individuals, fatality rates are more in line with the common flu.

Hearteningly, China’s measures seem to be working. While the number of cases in China continue to rise, the number of Active Cases [Confirmed Cases – (Cases Released or Recovered + Confirmed Deaths)] has trended downward since February 20 and the growth rate in new cases has also trended downwards fairly consistently. Ninety-six percent of worldwide cases and 99% of deaths are in Mainland China, alongside 17% of world GDP and roughly 32% of global growth, so diminishing growth of the virus is a significant positive for global economics.

While noting the rise in cases abroad, we take heart from the fact that China’s situation is showing signs of real improvement. China is progressively getting back to work and that is a positive given the large share that China has in terms of global growth and concentration of world supply chains. Last year growth abroad was lackluster, but the robustness of the U.S. economy (alongside its insular nature) propelled global markets to new records. Over the next several weeks we will get data that show the extent of impact on China’s economy, and any spillover effects into the United States economy.

It is our view that the virus will continue to spread, but the true global extent is impossible to tell at this juncture. Based on the information we have so far, coronavirus is significantly less contagious and deadly than the 2003 SARS Coronavirus. The comparative spread of this virus to SARS is a symptom of an industrialized China in an increasingly interconnected world.

We are actively monitoring this situation and the response by global authorities. In a previous note, we said that any downward movements in markets are more likely to be a repricing than a meltdown. That position has not changed. Markets have risen prodigiously since reports of a Phase One deal with China, seemingly ignoring the potential impact of the coronavirus as it developed. Markets typically have a 5-10% pullback once or twice a year, and we see the coronavirus as the catalyst for that price adjustment. With the virus becoming global in nature markets are repricing to account for that impact.

CRN: 2020-0225-8056R

The opinions and views of this commentary are that of Pence Capital Management and are not necessarily that of AAM.