In this week’s market update: Shares rally on hopes that we have passed peak infection in Europe; oil ministers gather to discuss the massive over-supply of crude; and dividends could take nine years to recover.
Stock markets started the week on the front foot as hopes were raised that Europe could be over the peak of infections and coronavirus-linked deaths.
Spain reported a fourth consecutive fall in its death toll on Monday and Austria said it was planning to ease its quarantine measures in the region’s first tentative effort to get back to work. There was better news in Germany too and the stats are getting no worse in the UK.
Shares rose in Asia and the good news rolled through European markets before Wall Street opened around 4% higher as New York reported its first daily drop in new infections. The US market went on to close 7% higher, its eighth best day since the Second World War. Overnight, Asia added to its gains on Monday, with Japan up another 2.5%. The Seoul index is now more than 20% above its mid-March low.
Investor optimism is rising despite growing evidence that the lockdown is taking a mighty toll on the global economy.
The latest construction data showed building activity falling at its fastest pace since the financial crisis. The IHS Markit purchasing managers index for UK construction dropped to 39 last month from 53. Anything below 50 shows a contraction. UK construction employs around 2.4 million workers.
In Europe, the impact of the lockdown on construction activity has been even more drastic. In Italy, the same index fell to 16 but this may simply reflect the fact that the bad news is not yet factored into the UK data, with the survey conducted between March 12 and 30. April could be worse.
Other data is also worrying. Car sales in the UK fell 44% in March compared with the same month in 2019. The rate of decline, with more than 200,000 fewer cars purchased in the month, were worse than during the financial crisis. It is estimated that the UK car market could shrink by a quarter in 2020.
Retail continues to be the front line of the crisis, with Debenhams calling in administrators and WH Smith, dependent on the travel sector, tapping shareholders for more cash. Restaurants are under pressure - Wagamama said it was cutting executive pay. Meanwhile Rolls Royce said it was cutting its dividend.
The pressure on companies is worldwide. JP Morgan, the US investment banking giant, warned this week that it may shelve its pay-out to shareholders, something it avoided during the banks-focused crisis of 2008. It would be the bank’s first dividend suspension in its history.
In a letter to shareholders, the bank’s board said it was not ‘immune’ to the crisis and would have to cut the payment in what it called ‘an extremely adverse scenario’ where the US economy contracted by 35% in the second quarter and unemployment (recently less than 4%) rose to 14%.
Last week, the UK’s big banks were effectively ordered by the Bank of England to suspend dividend payments in what was viewed as a payback for their bailout during the financial crisis.
Despite, all the bad news, investors are focusing on the prospect of a V-shaped recovery from what will inevitably be a dire second quarter on both sides of the Atlantic. Donald Trump tweeted that there was ‘light at the end of the tunnel’.
Morgan Stanley said in a note to clients that ‘the worst is behind us’, adding that ‘bear markets end with recessions, they don’t begin with them, making the risk-reward more attractive today than it’s been in years.’
The bank’s comments reflect the way in which stock markets typically foreshadow changes in the economic outlook as investors quickly factor in the outlook rather than focusing too much on today’s headlines.
JP Morgan was less enthusiastic, advising investors to ‘keep a defensive sector allocation’. Its more bearish position reflects the duration of most bear markets in history. Even event-driven markets like the current one take many months to move from peak to trough and back again.
In other markets, oil is again in focus this week as Saudi Arabia and Russia prepare to meet on Thursday to discuss a possible reversal of their recent decision to flood the market with oil and so push the price of crude lower in order to squeeze rival producers in North America.
A day later, oil ministers from the G20 countries will get together to discuss the massive overhang of oil which threatens to overwhelm storage facilities, full to the brim thanks to a slump in demand, notably from the aviation industry.
Flights are currently running at a fraction of normal schedules, putting enormous pressure on airlines, which have largely fixed overheads but extremely variable revenue streams during an effective international travel ban. EasyJet this week said it had received £600m in state aid from the UK government. It has grounded all its planes and furloughed its pilots in April and May.
One of the biggest concerns for investors at the moment is what is happening to dividends. In the UK, the FTSE 100 is currently yielding more than 6% when current prices are measured against historic dividends but this apparently generous income merely indicates that many pay-outs will not be delivered as forecast.
In the US, it has been estimated that dividends could take nine years to recover from this year’s cuts. Companies in the S&P 500 index paid dividends worth almost $500bn last year but this level of pay-out might not be reached until 2028 according the prices of futures contracts that are linked to the dividends paid out by index constituents.
After the financial crisis, it took just three years for dividends to recover but during the Great Depression regaining the previous high took nearly two decades, according to Robert Shiller at Yale University.
In the circumstances, it is perhaps unsurprising that an index of Eurozone investor sentiment has hit a record low, with pessimism worse than the low point of the financial crisis. The Sentix survey put sentiment at minus 42.9, down 25.8 points on the month and the lowest level since the poll began in 2001.
Contrarian investors will be reminded of one of Anthony Bolton’s better-known comments about market psychology. He used to say ‘don’t get more bearish as the market falls’, reminding investors that opportunities to make profitable investments actually increase as prices drop.
And finally, in currency markets, the pound’s roller-coaster ride continues. The UK currency fell more than 13% from peak to trough in March, hitting a low of $1.14 as investors fled to the perceived safety of the US currency, before bouncing back to $1.23.
Data this week expected to show zero economic growth in the UK, alongside concerns that the UK government is in disarray with Prime Minister Boris Johnson hospitalised and reportedly in intensive care, are likely to keep the pressure on the pound.