WESCAP’s Take on the Current Coronavirus Outbreak
Summary: Covid-19 appears to be spreading more rapidly than first thought, but with a lower mortality rate as well. Therefore, a worldwide pandemic would be temporarily debilitating, but not likely to have a material long-term impact on most global economies and asset prices. Headline news risk and stock price volatility will remain high until the virus peaks and shows evidence of receding.
Virus spread and Mortality rate
Covid-19 is being better-understood as it progresses. One of the more recent surprises was that many people can have it without showing symptoms. Virus testing occurred for all passengers of the Diamond Princess cruise ship, not just the ones showing evidence of illness. The test results showed that 619 people were infected, but 51% (318) of them did not show symptoms at the time of testing. Also, at least one case within China involved a person who tested positive, but displayed no symptoms during or long after the infection yet did infect other family members.
Lack of symptoms while being infected and being able to infect others will make virus containment difficult. The incubation period and duration of infection is still poorly understood, which will have a large impact on the spread of the disease. Preliminary data from the Diamond Princess cruise ship suggests that for every person infected, they will infect 2.3 other people, which is slightly higher than for the average flu.
While not a foregone conclusion -and we hope otherwise- it looks less likely than before that Covid-19 can be contained before it spreads to much of the world. The fact that it is not that deadly is a big reason why. So far 81% of the cases reported by the China Center for Disease Control (CCDC) are considered “mild.” Non-reported cases and those asymptomatic may mean that over 95% of cases show modest or no symptoms. Thus, many of these people keep working, go out in public and travel to other places. This makes stopping the spread of the virus much tougher. Several epidemic experts suggest that we prepare for an eventual pandemic affecting 40%-60% of the world. Others think it can still be contained. We will know soon.
The fact that most infected people have mild or no symptoms suggests that the fatality rate of the disease is much lower than first thought. Initial reports showed a fatality rate of 2.3%. However, if half the people are not symptomatic and those with mild symptoms are not being reported, the fatality rate may be well under 1%. Those over age 80 or with serious pre-existing conditions are very much a mortality risk, whereas most others are not. Through February 11, the CCDC found that 1,716 health care workers in China became Covid-19 infected while treating others. Five of them died for a fatality rate of 0.3%. Presumably most of the health care workers were previously healthy and not over age 70 and did have access to better health care than the average Chinese citizen, so this 0.3% fatality rate may be a better indicator of how the average person in countries with good health care systems will react to Covid-19. The mortality rate in the rest of China outside Hubei Province is about 0.7%, much lower than the medically overwhelmed Hubei province. Again, this does not account for those not reporting or asymptomatic, which may result in a near halving of the actual mortality rate. All of this suggests that the fatality rate is higher than most flus, but not catastrophically high.
China and Hong Kong are enacting strict virus containment policies. The worst case is that Covid-19 cannot be adequately contained, even with very strict contagion measures. If containment measures are deemed ineffective in the long-run and if the underlying fatality rate is actually not too high, then governments may decide it is not worth the economic cost to close down factories, schools, and large segments of their own economies. China’s recent decision to reopen many of their factories may be a case in point. Such actions may speed up the spread of the virus in China and elsewhere, but keep their economy going until the outbreak peaks and then recedes.
Most other countries do not have the same ability to quarantine huge numbers of their citizens as China does. If these measures in China do not work, then it likely will do more overall harm than good for other countries to shut down large swaths of their economies in response to a viral outbreak. A more targeted approach may be best.
Coronavirus outbreaks, including the common cold, tend to die down before summer. They often do not come back as strongly the next winter either, which may be the case here too. Even if it does come back, we will know much more about it and may have vaccines ready to be employed sometime in 2021. Additionally, some current anti-viral medications for Ebola and other viruses may also prove somewhat effective for curtailing Covid-19.
Economic/investment impact of Covid-19
Assuming a worse case of a pandemic, but a low mortality rate of Covid-19, the long-term economic impact is expected to be small. However, for the next 3 to 6 months, travel and recreational activities may be interrupted around the world with particular impact in Asia. Supply chains for some products may be curtailed, but with many China factories reopening, the long-term impact should not be too high.
Some other countries may close factories, limit travel, limit public/sports gatherings to contain the virus. However, like China, the ability to do so for long without serious economic effects may limit what they can or have the willingness to do. Civil liberties come into play as well, which may legally limit what many governments can do as well.
China has already increased monetary stimulus and is considering some fiscal stimulus as well to help small businesses survive for months of reduced demand. The U.S., Japan and Europe have monetary stimulus programs already in action that can be easily expanded and extended. Notwithstanding the virus, global economies appear resilient enough and have additional monetary and fiscal tools to weather a temporary economic disruption.
The U.S. stock market (S&P 500) has declined over 7% in the U.S. over the last several weeks, through Feb. 26, and many sectors and stocks—oil, travel related and some others– have declined by over 15%. The VIX volatility “fear” index just reached 30. The last time this happened was in mid-December 2018 when U.S. stocks dropped nearly 20% from their prior highs. When the VIX reaches 30 or more this indicates very high distress. This results in the most distressed owners of stocks selling some or all of their holdings, thus accentuating the price decline. Negative news headlines keep fears elevated. However, within days or a few weeks, the distressed sellers have sold out, leaving stocks in the hands of longer-term less distressed investors. This tends to stabilize the markets and often precedes a very strong rebound, such as last occurred in January 2019. Previous viruses have induced selloffs (SARS, MERS, Ebola, H5N1 Bird flu) and also caused short-term sell-offs, followed by strong recoveries after the outbreaks peaked. The details always differ, but the pattern is likely to repeat again.
High-quality fixed income assets should be a part of everyone’s portfolio, except for the most aggressive investor. These fixed income assets hold their own or even climb in value during distressed stock market sell-offs. Owning these assets not only provides a risk buffer, but they also offer a source of funds to make purchases if stock market values are compelling enough.
Contact us if you want to review your asset allocation in terms of risk control and to determine if current conditions warrant an increase in either fixed income or stock investments.