The Monthly View – May 2020

The Capital Company Investment Committee Update to Portfolios

It is just mid-May and the global recovery is underway as more nations and cities are opening up. The Covid shock was exceptionally deep, but extremely short by normal recessionary standards. With much of the U.S. shutdown as of mid-March, April month on month data looks terrifying.

However, with many parts of the economy reopening in May, June data will, on a relative basis, suddenly look much better. We do not expect that global economic activity will be back at pre-Covid levels by the end of the year. No one does. And markets are priced for a deep cut to real economic activity in the short-term and a slow recovery afterwards.

The pandemic is likely to have a more severe impact on Main Street than Wall Street, which helps explain why stocks have rallied off their lows even as bond yields have remained depressed. Equity investors are hoping that central banks will keep rates lower for longer, while government spending will revive demand. The result could be lower bond yields within the context of a full employment economy – a win-win for stocks.

In the near term, these hopes could be dashed, given bleak economic data, falling earnings estimates, and rising worries about a second wave of the pandemic.

Longer term, an elevated equity risk premium and the likelihood that the pandemic will not have a significantly negative effect on the supply side of the economy argue for overweighting stocks over bonds.

In other words, the amount of stimulus might help us through this recessionary period. Several politicians have compared the current situation and the current budgets to a wartime situation or a natural disaster. However, there is one big difference. No factories or other assets have been destroyed or many working age people have died, which is what typically would happen in a war or natural disaster.

 

Ahead in the Coming Weeks

Perhaps the equity markets have gotten ahead of themselves as the coming weeks the news flow will remain volatile. So, it is likely we could see period of consolidation in the markets.

What is clear is that the world will not look the same after the Covid-crisis and there will be winners and losers. It is obvious that the airline industry and the hospitality industry will be much harder hit than e-commerce and healthcare companies. These sectors have already outperformed the rest of the market over the past few weeks, but the fundamentals should support a further outperformance.

Also, the banking sector, while in much better health then in 2008, will suffer from the low interest rate environment. As there is a risk that we could get a second wave of infections later in the year, which could lead to renewed lockdowns, we would also expect that companies with very solid balance sheets with low debts will fare better.

Then we see another trend emerging which we think will have a major impact on markets in the coming years and that is the focus on sustainable or so-called ESG investing. ESG stands for Environmental, Social and Governance factors, which means that companies are screened on how well they score on these factors compared to other companies in the same sector. The idea is that companies that score higher on these factors, will do better for their shareholders in the long-term.