Looking at the wood rather than the trees of the unrelenting global spread of the COVID-19 virus, it seems there are only two possible future outcomes:
The first is a continuance on the current path of an accelerating number of global infections and a tolerance of the deaths that must eventually follow. As a guide to what this may look like if we assume a death rate of 0.5% this will mean 1 million deaths in the USA if the virus eventually infects around 60% of the population. While the precise Infection Fatality Rate (IFR) is unknown and estimates vary, we do know with absolute certainty it is at least 0.17% as this is the proportion of the total population of New Jersey state the virus has already killed. In actuality the IFR will be higher as there will be some unrecorded deaths[1], deaths are still being reported everyday in New Jersey and nobody is arguing every single person in New Jersey has yet been infected (estimates put the proportion at 20%, which would make the true IFR five times higher at 0.85%). The death rate is 0.16% in New York state and 0.12% in Massachusetts and Connecticut so New Jersey is not an outlier.
A second outcome is a lowering of infections through increased social distancing (in the broadest sense), but it would appear this can only really be achieved in many countries through the re-imposition of partial lockdowns and mandated cessation of certain activities such as unrestricted travel, large gatherings and crowded public transport all of which have negative economic consequences. Close to home, Melbourne is a good example with “Stage 3 lockdowns” being deemed necessary to bring the latest outbreak under control at an estimated cost of AUD 1 billion per week to the economy.
An unknown for investors is how countries with widespread infections such as the USA, India and Brazil will ultimately respond to a rising death toll that will almost certainly follow rising infections rates.
Most commentary that has tried to explain what appears to be a widely held belief that current credit and equity market levels are not justified by the economic fundamentals focus on three reasons:
- In developed countries central banks and governments will do whatever it takes to support the equity markets and their actions will be successful in avoiding a market crash – “the [Fed] will do whatever it takes”.
- The economic effects of the virus are relatively short-term and while economic news is currently dire, the long-term economic prospects are largely unchanged from before COVID – “there is a bridge to the other side when the virus has passed”.
- There will be positive news regarding the virus in terms of treatments and vaccines that will lower its harmful social effects so any future economic disruptions will not be as severe and lockdowns will be applied again – “the worst is now over”.
Reason #1 is unlikely to be challenged if the spread of COVID continues as is because central banks are likely to use even more “firepower” if needed. Reason #2 is something that will reveal itself over time, but in terms of expectations Amicus believes higher infection and death rates will put increased pressure on the assumption the “other side” will not bear significant human and economic scarring. Reason #3 is likely to be comprehensively refuted if government responses are to re-introduce lockdowns as severe as or more severe than previously or citizens take matters into their own hands and “shelter in home” to protect themselves in the face of mass infection rates and over-crowded hospitals.
If investment markets were to crash, the most likely guide as to the effects would be what occurred earlier in the year, excepting that a whole range of policy responses in addition to the current ones implemented would be needed to induce a second recovery. For example in Australia, the RBA’s response of reducing the cash rate to 0.25%, buying bonds to keep the 3 year government bond yield at 0.25% and offering term funding at 0.25% to all ADI’s is already priced into current debt, credit and equity markets so any additional shocks would need to be countered by further as yet unknown measures.
[1] Public health officials have identified 1,877 deaths that were probably caused by COVID-19 on 25 June which are not counted in the official New Jersey death statistics
