Two weeks have passed since I last wrote to our investors about the stock market volatility associated with the fears surrounding the COVID-19 coronavirus.
As you have no doubt read, COVID-19 continues to spread across the globe. Based on data reported through March 9, the death rate among those infected is about 3.4%1 , though it is highly likely the mortality rate is lower assuming tens of thousands of cases have gone undiagnosed. After initially believing that the virus was mostly isolated to a specific province in China, reports of more widespread infection have led to continued heightened volatility in financial markets.
Wespath will continue to diligently monitor world news and market developments, while adhering to our consistent, long-term and disciplined investment strategy.
The reaction of markets is reminiscent of the volatility observed prior to past major market downturns. Today, the broad U.S. stock market nearly reached bear market territory after declining 7.6%―falling 18.8% since its peak on February 19. In this same timeframe, the popular Dow Jones Industrial Average (Dow) has shed nearly 5,500 points. In just the past 12 trading days, the Dow experienced six of the 11 largest price drops, as well as two of the largest price gains, in its history.
In addition, interest rates for long-term U.S. government bonds have plummeted to historical lows as investors seek the safety of what they consider to be “risk free” assets (see Figure 1 below). Energy prices also saw new lows as the Saudis promulgated a price war on oil, following failed negotiations regarding production cutbacks that were working to address the expected decrease in demand.
History has shown time and time again that it is normal for markets to experience periods of turbulence. In times of uncertainty, some investors with a short-term orientation will eschew any kind of risk exposure.
Long-term investors like Wespath, however, remain invested in stocks. We recognize that markets experience periods of turbulence caused by any number of factors. We accept the uncertainty of the timing of the market recovery.
In fact, markets have proved resilient following pandemic outbreaks. Figure 2, courtesy of J.P. Morgan Asset Management, displays how the U.S. stock market reacted to other pandemics after the start of each outbreak, specifically SARS in 2002, MERS in 2012, H7N9 (bird flu) in 2013, Ebola in 2013 and H1N1 (swine flu) in 2015. While past performance is no guarantee of future results, in these earlier cases, markets ultimately recovered.
Prior to the serious threat presented by COVID-19, the U.S. economy had witnessed its longest running economic expansion on record, as well as generational unemployment lows. In fact, the decade of the 2010s is the only decade since the founding of the U.S. that we have not experienced a recession.
It is certainly reasonable to expect that our economy will behave similarly to a healthy individual who has caught the virus. It will likely struggle in the near-term, slowly recover and eventually return to full health.
Industries will feel the impact of the epidemic in different ways. While precautions taken to combat the virus may adversely affect some, including travel, lodging and entertainment, others, including healthcare and certain financial services, continue to flourish. In fact, lower interest rates and lower energy prices are economically stimulative.
Other parts of the world look to be more at risk. China’s economy was already reeling from two years of U.S. trade disputes before COVID-19 struck. While Europe’s economy had shown recent signs of recovery following progress related to Brexit, growth had plateaued in 2019. With rates of infection from the virus in Southeast Asia and Europe significantly higher than the U.S., economic disruption in these areas might have a more lasting impact.
Wespath will prudently maintain our discipline of buying stocks when they are cheap and selling bonds when they are expensive. For a long-term investor, stocks today are significantly more attractive than bonds. One important factor is that dividend yields for U.S. stocks are noticeably higher than long-term bond interest rates. The difference between dividend yields and long-term bond rates are even greater outside of the U.S., with government bonds across Europe and Japan trading at negative interest rates.
Wespath accepts that there will be uncertainty of the timing of the market’s recovery. Over the past century, Wespath has successfully weathered many market downturns and will continue to prudently manage your assets, staying true to our long-term investment approach.
As we wrote two weeks ago, we are confident that our approach will continue to faithfully serve the retirement needs of our participants and the missions of our institutional investors.
Chief Investment Officer
1 World Health Organization, Coronavirus disease (COVID-2019), Situation Report – 48, March 8, 2020.