The Tilney Investment Podcast – What if the worst doesn’t happen?

This edition of our podcast features Lewis Cohen, an investment director, and Ben Seager-Scott, Tilney’s Head of Multi-asset Funds. They talk about the markets, Coronavirus and the latest challenges for the global economy in the past month.
02 March 2020

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Highlights of this episode

You can use the links below to navigate to a section of the transcript.

00:56Ben’s round-up of markets in February

05:23Coronavirus: what’s the long-term impact on the economy?

09:00UK fiscal policies – Budget review is likely to be delayed

12:10Europe needs a fiscal stimulus, and quickly

13:49Chinese monetary policies: Government could lead to aggressive moves

15:14US elections: Sanders is the front-runner for the Democratic Party

 

The following is a transcript of the podcast which has been edited for clarity.

It is important to remember that investments fluctuate in value and you may not get back the amount invested. Nothing in this article is intended to constitute advice or a recommendation, and you should not take any investment decision based on its content. The opinions expressed may change without notice. If you are unsure about the suitability of an investment, or if you need advice on your specific requirements, you should seek professional financial advice.

 

Ben’s round-up of markets in February

Lewis  0:57 

So Ben, perhaps we can start with discussing what's happened since the last podcast.

Ben  1:01 

Absolutely. Quite a lot has happened and not just in markets, actually. And if you cast your mind back to the last podcast, we were talking a lot about the Bank of England and the monetary policy meeting. Will they, won't they?

And actually, in the end, they didn't cut interest rates, which we did predict, even though I wouldn't say as a very high-conviction view. But I think it was interesting, because going into that meeting there was a 45% chance of a cut, which is relatively high. In the event interest rates were left on hold by a vote of seven to two. So no actual change, despite some of the changing rhetoric. We heard the Bank talking about reduced uncertainties, alluding to Brexit, but also to some of the potential short-term growth stimulus from the Government. So I think it's interesting that was Mark Carney's final meeting, and the bank held fire from there. Perhaps we can talk about monetary policy and some of the shifts a little bit later.

But tied in with that, just as they were talking about the potential for short-term growth, the Bank also reduced some of the UK’s growth forecasts. If you look for this year, the Bank now expects only 0.75% growth, that's down from one and a quarter predicted a little earlier. And next year, forecasts have fallen from 1.75% to 1.5% growth. That obviously has knock-on effects on some of the other factors.

Elsewhere, we also have the UK leaving the European Union, now entering a transition period. Not a lot has changed on the surface, but I think some of the rhetoric and some of the negotiations have started off at quite a pace. There's quite a lot of intensity happening around that and that's likely to be a sustaining theme.

I think most broadly and importantly, perhaps, is the intensification of concerns around COVID-19, previously called the Coronavirus. Last month there were some worries, particularly it was intensifying in China. Since then what we've seen is that [worry] broadening out and it's really shifted to outside of China. In fact, Hubei province is largely coming under control. Outside of China we're starting to see other outbreaks and that's really impacted sentiment. It has hit risk assets pretty significantly.

If we look at UK equities, at the moment they are, we read on the screen, down 6.4%. Global equities are faring a little bit better, part of that on the currency. Global equities are still down 3.8%. Government bonds were already fairly tight at the end of last month, so they haven't really moved. But if you look at commodities, you can always get a lot from sentiment readings from this area. Gold’s pushed up to US$1,633 an ounce as up over 3.5% since last month. What's also interesting if you look at oil, it has fallen quite significantly. Brent crude has fallen almost 10%; it's now down to US$54 a barrel. I think oil in particular is an interesting area: it could be both a driver of economic growth and a key signal. It can be a driver of growth because obviously it's very demand sensitive; if you see accelerating economic growth, you'll see the oil price pick up as people expect billions of people all over the world to drive more, so you need more for freight, for lorries and shipping. So it can be a driver. And we also see that if your price gets too high, it can act as a tax and make life a little bit more difficult overall. But against that it's also a signal. I think that's how it’s functioning here. And it's really signalling if there's uncertainty, if it's unclear what's going to happen, then you do see that demand really drop off. And so what we're seeing right now is that oil is pricing in significant economic uncertainty impacts, potentially to supply chains, and it's really softening. That's going to be a boon to a lot of those oil importing countries and act actually almost as a form of stimulus. We sometimes talk about main themes as monetary policy or fiscal policy, but actually a lot of what's happening with oil, depending on your oil importing needs, can be a factor. So it can be a boon for those countries, but against that it is not often a good long-term signal: if oil remains weak it signals some of the challenges that might persist in the broader economy.

Back to highlights

 

Coronavirus: what’s the long-term impact on the economy?

Lewis  5:24 

I’d like to focus a little bit more on Coronavirus. I know that it's been a short-term impact onto markets, but I'd be interested in our longer-term view of the impact to actual capital markets. And in particular, we've seen disruption to both supply and demand sides, which of course requires different policy action. So how do you think this will be implemented? Especially as we've said over the last few podcasts that we're now running out of options for monetary policy.

Ben  5:50 

Yeah, I think there are many interesting aspects to the spread of this virus. It came up last month and it's still relatively isolated in China. The recent sell-off has been driven by the proliferation outside the epicentre of Hubei province. And as you say, it hit supply chain, it hit supply and demand. Demand came back fairly quickly, actually: people hold off given the uncertainty, but you can get that back on stream relatively quickly. It is the supply side that is a little bit more concerning. And in some ways we're seeing different cycles within the overall story. The early sign in China is actually that the containment effects have been working, we've started to see the number of reported cases starting to level off in terms of new reports. Now there's some credibility questions around those reports. If you think that this is starting to have a relatively positive effect in the grand scheme, the problem is, as you're seeing that the cycle is sort of moderate in China, you'll see new outbreaks in other parts of the world, most recently in Italy, and it seems inevitable. That's going to crop up elsewhere as well. And as you have those different pockets, different parts of the supply chain being shut down, that's going to impact downstream effects as well. And I think that's the big concern at the moment.

In terms of the outlook, I don't think there’s a huge amount of change; even though we are in the midst of it, it does make sense to be cautious and watch carefully. From an investment point of view, though, I think, as well as saying, ‘What if the worst happens?’, we need to think, ‘What if the worst doesn't happen?’. On a balance of probabilities, we need to look through that. Governments are acting in terms of the virus, but there are other activities that governments can take to stimulate economic activity. And as you said, monetary policy might be running out of steam, but it hasn't entirely run out of steam. There is still further that it can go: I think it's interesting. We talked to the top about the changes or the lack of change in interest rates in the UK: a lot of people might think, well if they were on the edge before, they must be ready to pull the trigger now. But it's interesting that the market pricing isn't pointing towards that. There are votes coming up in the UK, in the Bank of England in March, and others later in the year. But actually at the moment, the markets are pricing in a cut to interest rates this time around most of further out to the summer. So again, exactly as said last month, it's coming, but it's not quite so imminent.

We might start seeing more in Europe, which is starting to see greater signs of risk both from the virus but also from the ongoing slowdown in economic activity. So there we might have to see more activity and that's likely to be unconventional monetary policy. They already have quite deeply negative interest rates, which is unconventional in and of itself. They have QE programmes, buying assets, some so-called money printing… they might have to start doing a little bit more of that. But increasingly, I think monetary policy is going to have to be dovetailed with fiscal policy and that's something that the central banks have repeatedly been saying.

Back to highlights

 

UK fiscal policies – Budget review is likely to be delayed

Lewis 9:00 

So, if we look at that fiscal policy side – perhaps we can talk globally, but just a bit more UK-centric to start – we've got a Budget coming up in March and it looks like we're going to have a much more aligned number 10 and number 11 Downing Street. So what are our views on the impact on the UK stimulus, especially on the back of those election promises?

Ben 9:24 

I think it's interesting, as you say. We talked earlier about the change of the guard in the Bank of England. We've also got one of the Treasury, Sajid Javid, who resigned. Now, Rishi Sunak is a fast-track minister, he is the new Chancellor. The expectation is that he is likely to be more loyal to Number 10. And we already have some of those fiscal pledges in the Budget.

Against that, though, the trouble that the Government currently has, particularly if you look at the Institute for Fiscal Studies that sort of independently assesses what the Government does, is that those downgrades to the economic forecasts I talked about earlier make it harder to open those spending taps, given the disruption as well from the Coronavirus. The indication at the moment is that the Budget in March is going to be a little bit of a damp squib in terms of big decisions, particularly around tax and spending. Those are likely to be delayed until the autumn. But I think if you look within that, the expectation is that the Chancellor will focus on giving away some of those key promises in the manifesto. And that is the early stages of fiscal stimulus: it includes more spending for the NHS, it includes giving more money to millions of workers through increasing the threshold which national contributions start, pausing the cut in Corporation Tax. So, lots of the manifesto pledges are likely to get through. Given the broader backdrop, the Government is almost certainly preparing to put more money in if we see developments with COVID-19. My suspicion is they'll start with the pledges and the big announcements will be pushed later in the year. That's probably because if you're a Government, a bit like what happened with Brexit, you cast your minds back. Philip Hammond made a lot of this fiscal headroom. We talked about the Brexit war chest and there's no point splurging that all early on if you anticipate bumps down the road. So maybe some of these spending pledges and some of the stimulus are held back because you don't want to have a Budget. You announced lots of fiscal spending, you have another bump – perhaps it's, you know, the Coronavirus – and then you don’t have any ammunition to deploy. So I think somebody is pushing further down the road. I think somebody is going to be focused on those patches, particularly around the NHS, and the broader backdrop is going to have to be that the Government needs to be able to respond if we do see the Coronavirus turn up. I think that's really what's going to help supply and demand. There's not a huge amount you can do on the supply side with monetary policy, you can with the supply side if the Government introduces fiscal stimulus. It can really help if you need to reaccelerate out of a dip.

Back to highlights

 

Europe needs a fiscal stimulus, and quickly

Lewis 12:11 

Fantastic. And if we sort of expand that fiscal stimulus from inside the UK to outside into global markets, where do we see that starting to come first?

Ben 12:23 

Well, interestingly, nothing has so far been promised, but I would suggest the next area is likely to be Europe. Europe is already, as we said, facing a bit of a slowdown. It has several area spreading in Italy and is likely to be elsewhere, given the earlier reports. So they need stimulus and they need it relatively quickly.

We've talked before that some of the more austere governments, particularly The Netherlands and Germany, were giving some signs they might be prepared to be a little bit more tolerant of fiscal stimulus. We talked about the green banks; it's interesting there have been reports out in the last few days that the German authorities are considering relaxing some of those fiscal constraints, at least in the near term.

So nothing has been promised and it is very difficult to have broad action, particularly coordinated action, across the Eurozone while still maintaining all of the fair treatment of the different-sized countries that I think the electorate are very sensitive to. Against that though, if you do have this common threat, particularly something like COVID-19, it could be the common enemy to help unite some of those political factions to acknowledge that something needs to be done.

So nothing outside the UK is currently particularly clear, but I suspect Europe is probably next. And if you do see a broader downturn, we've seen that America is pretty willing to open the taps fairly readily as and when needed.

Back to highlights

 

Chinese monetary policies: Government could lead to aggressive moves

Lewis 13:49 

And I suppose that it's also starting to see a little bit of change in China and across Asia with the way they're going to deal with the ramifications of the virus and starting to see some of the movement allowed back across the country and factories reopening.

Ben 14:03 

Absolutely, there is a clear coordinated policy from the very highest levels. And we saw that with very harsh and rapid restrictions initially, but now they are starting to move between that balance of containing the virus but recognising economic activity is really essential. It's likely their Q1 GDP figures will be slashed quite materially. The question is about the rebound on the other side.

We were just talking about how monetary policy and fiscal policy varying by most regions we talked about: Europe, the UK, the US in particular, and Japan; they have virtually fully independent central banks. That is less the case with China, where interestingly there tends to be monetary policy and fiscal policy both controlled by the government. There we're already seeing further incremental policies and stimulus measures being deployed. So China certainly has the scope. What is going to be interesting is to see how credible these reports are about the Coronavirus or COVID-19 starting to dissipate and how aggressively they've been trying to kickstart economic activity. A lot of supply chains go through China, so I think that's going to be a really important watch point.

Back to highlights

 

US elections: Sanders is the front-runner for the Democratic Party

Lewis 15:16 

Perfect. Thank you. You touched on the US being one of the last areas that may need to take some sort of fiscal policy. Obviously the elections are coming up this year, we're well underway with the cycle. It looks like Bernie Sanders is firmly in the lead for the Democratic Party. I just wonder if there's anything else we should be considering at this stage.

Ben 15:37 

I think the area to watch really at the moment – it's still many months away until the November elections – it's going to be the Democratic primaries and who is going to be running for the democrats against Donald Trump. And as you say, by all accounts, Bernie Sanders is the front runner. He has already won all of the first three rounds and historically, if you look at all of the patterns, that suggests that anyone who wins the first three – that's your trend – the others start dropping out. It's historically difficult for anyone else to achieve success.

What is interesting, though, is this time it is different. It's always very dangerous to say this time is different, but there are some factors that are quite notable. And really, you've got two camps within the Democratic primaries at the moment. You have the more moderate side and those further towards the left, and certainly Bernie Sanders is the poster child for the left wing of the party. He has some fairly market unfriendly policies. You've also got Elizabeth Warren in that camp as well. What is interesting this time around is going to be Super Tuesday, which is on Tuesday, March 3. The first three of these primaries set the scene. They have a system where you elect delegates which in turn vote for the lead delegates, or for the candidates. Actually, the first reads by volume are tiny. They're merely indicative. Most of the delegates, I think around 60%, are made available on Super Tuesday. Michael Bloomberg, the billionaire who runs the very well-known financial software, is entering the race only for Super Tuesday. He hasn't participated in the first few rounds. And that's really the wild card. That's going to be the tipping point. Michael Bloomberg is effectively the leader within the moderates. So if we have Bernie Sanders and Elizabeth Warren as a sort of more left wing, your moderates at the moment are Pete Buttigieg, who's currently doing pretty well, Joe Biden, who was vice president under Barack Obama, and then Michael Bloomberg. It's going to be interesting to see the split between those two camps. Michael Bloomberg has been spending huge amounts. He's spent already over US$500 million on advertising, which is more than all of the others combined – sorry, [he’s spent more] for his campaign overall, more than all the others combined. He's really going out there. So what's going to be most important to watch is how that is going to be split. Are we going to see Michael Bloomberg really still in March? Or, the other risk is that the moderates perhaps split three ways and no one gets enough delegates to get through to the next stages. I think it's going to be very interesting to see how this pans out. Most importantly, there's a risk: I think that the markets are currently underestimating the chance of a Sanders-Trump election in November. That could have ramifications for the market, particularly given some of the market-unfriendly policies that Bernie Sanders is advocating. It's probably something we'll talk about a lot more at next month's podcast, because then we'll have Super Tuesday, we'll have a much clearer idea the way the land lies.

Back to highlights

 

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