A Tug of War

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Equities fell back a little last week, following the sharp rebound seen over the previous month, though have opened higher today.

Markets have been pulled in opposite directions this year by two extremely powerful opposing forces. Their prospects going forward basically depend on how this tug of war plays out.

The first force is the prospect of a global recession, which now looks like it could be significantly deeper than that seen in the Global Financial Crisis. Indeed last week, there was news that business confidence had plummeted in April in the US, UK and Europe to levels way below the lows touched in 2008.

Meanwhile, jobless claims have surged in the US, unwinding in the space of a month all the employment gains of the last ten years. Finally: retail sales saw record declines in March in both the US and UK.

On the other side of the rope, which is also of an equally unprecedented size, is the fiscal and monetary stimulus which continues to grow in magnitude. Last week saw the announcement of further fiscal support measures in the US and Europe and additional monetary stimulus in Japan.

Markets seem very much now to be assuming that this second force will win out and relatively quickly. Even if the recession is of record depth, the hope is that it will also be unusually short.

The problem here is that this all depends on how the pandemic develops which remains highly uncertain. Lockdowns are now starting to be relaxed in a number of European countries and in some states in the US. But it is far from clear how quickly they can be relaxed without triggering a secondary wave of infections.

There is also of course the question of how quickly effective treatments and/or a vaccine can be developed. Both are very unclear. Treatment by disinfectant and light may not prove as effective as has been mooted recently and the latest trials on a couple of more conventional and promising drugs have proved disappointing. As for a vaccine, it looks very unlikely to be developed until next year at the earliest.

Finally, it is far from clear until a vaccine is developed, to what extent people’s behaviour will be changed and whether they will return to their free-spending ways of the past. Companies are also likely to place rather more emphasis on resilience rather than efficiency going forward.

The bottom line is that despite the market’s rush of enthusiasm over the last month – which is no doubt in good part down to the massive injections of liquidity by the central banks – a tremendous amount of uncertainty remains.

‘Unprecedented’ is the most over-used word at the moment. But one more unprecedented event occurred last week. Oil prices in the US fell to -$40 a barrel at one stage with people being paid, rather than having to pay, to take delivery of oil.

All this leaves us believing now is not the time to take a big position one way or the other. We have recently reduced our UK small and mid-cap exposure fearing equities have rebounded far too fast. If markets do retreat again, as seems quite possible, our plan is to take advantage of the falls by reinvesting the proceeds back into larger cap equities. But in these highly uncertain times, plans can change…