A global recession has become the consensus, but what matters for investors now is how deep and long the current slowdown will be, says Joseph Little, global chief strategist at HSBC Global Asset Management.
The worldwide spread of Covid-19 has created unprecedented volatility in financial markets, driven by fears over the economic impact and intense levels of uncertainty about what happens next. However, over the last month, investment markets have recovered nearly half of the drawdown experienced. This recovery came from the perception that the virus is getting under control, alongside extraordinary policy actions from central banks and governments around the world.
However, the economic outlook continues to be challenging. Recent macro data suggests the world is experiencing a large fall in economic activity. A global recession is now a likely outcome, but the critical question for investors is how deep and how long this economic slowdown is likely to be. Part of that will be determined by how quickly and widely Covid-19 spreads through the world, and how disruptive the containment measures taken by authorities are. It will also be important to track how labour markets and the financial system respond to the crisis.
Despite a highly uncertain environment, we think there is an important silver lining for investors. Valuations of riskier asset classes continue to look attractive, especially against cash and government bonds. Global equities, high yield bonds and some parts of the alternatives space – such as private equity and hedge fund strategies that offer equity risk diversification – look like the best areas to deploy risk. But we need to closely monitor how the fundamental picture evolves against what is being implied by market prices.
EM [emerging markets] asset classes continue to have attractive valuations, but we think that exposure could become a bit more challenging from here. Relative valuations versus developed markets have narrowed and emerging economies have limited capacity to manage the current health and economic crisis. In this context, selectivity is key.
We think the bright spot within EM is Asia. While the region is not immune to a global recession, it benefits from attractive valuations, low energy exposure, relaxation in containment measures and prospects of a growth recovery, led by China. High frequency data such as cargo shipping and coal consumption already point towards a gradual pickup in Chinese economic activity. What’s more, the country still has considerable room for further policy action to revive activity if needed.
Overall, we expect the environment to remain very challenging in the months ahead, which warrants a cautious investment strategy. However, our longer-term strategic view remains pro-risk. There is an attractive reward for investors that can take a long-term view and withstand short term volatility.
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