Morningstar are writing to keep you informed of your portfolio progress and the impact from the coronavirus outbreak.
To provide context, you’ll see that your portfolios have fallen since the start of 2020 with stock markets once again dominating the news. Concerns about the economic impact of Covid-19 draws the focus of investors from the long-term horizon to the here and now, and it is easy for investors to react to alarming headlines and panic when events such as this outbreak occur. However, Morningstar believe that taking a more measured approach is key.
As can be seen below, numerous epidemic outbreaks in the past have led to short-term losses in global equity markets. However, these losses have tended to be recovered relatively quickly.
Source: Morningstar Investment Management Europe Ltd. The data references the Morningstar Global Markets GR USD Index, up to 31 December 2019.
A long-term perspective is important at these times, as investors are becoming increasingly concerned about the economic damage caused by the spread of Covid-19. While there are many ways this virus can impact the assets in which you invest, it is important to separate permanent damage which will impact the long-term fair value of an asset from temporary damage which will quickly be forgotten.
It is important to highlight Morningstar were well structured leading into this, with a diversified investment mix that was on the defensive side and biased to undervalued assets. Morningstar believe that they will remain equally well-structured coming out of this, because their approach is sensible and built in line with the client’s risk tolerance.
If the impact is short-term, price declines may produce buying opportunities. Warren Buffett, chairman and CEO of Berkshire Hathaway, said recently that “you don’t buy or sell (a) business based on today’s headlines. If (the market) gives you a chance to buy something you like and you can buy it even cheaper, then it’s your good luck.” Some asset classes appear attractive through this lens, however others continue to remain unattractive despite the recent falls. It is therefore important to be selective when making changes to portfolios.
Can you concisely offer your views on coronavirus?
To do this, we are going to steal from a recent insight produced by our Chief Investment Officer EMEA, Dan Kemp.
“It is easy for investors to react to alarming headlines and to panic when events such as this outbreak occur. However, we believe that taking a more measured approach is key at this time. While there are many ways this virus can impact the assets in which we invest, it is important to separate permanent damage which will impact the long-term fair value of an asset from temporary damage which will be forgotten.
Numerous epidemic outbreaks in the past have led to short-term losses in global equity markets. However, these losses have tended to be recovered relatively quickly, suggesting that sentiment has been the main driver rather than a longer-term economic impact. For example, to justify the losses incurred to date, we would need to see many years of cashflow impairment.
Make no mistake: The toll of Covid-19 has already been unacceptably high and looks set to worsen. As investors, however, our minds remain on what we believe is most important when investing—namely, balancing risk and reward and coaching ourselves and others to make good decisions.”
So, to paraphrase, we don’t see the need to hit the panic button, nor do we see the current reaction in markets as disorderly.
Since the downdraft that started following coronavirus, is our positioning helping or hurting us?
Since the latest volatility began, our asset allocation process that supports our portfolios has done well in relative terms—that’s perhaps of little consolation given the losses and is too short of a timeframe to draw conclusions, but we mention this as validation that our approach can be effective in managing downside risks. We are also sitting on healthy levels of cash, which has helped preserve capital in the downturn and may allow us to capture opportunities when others can’t or won’t.
What would you say to people who are tempted to move fully to cash at this time?
There are always reasons not to invest, however take a moment to reflect over the past 100 years. We’ve been through two world wars, over a dozen recessions, a financial crisis, and a Great Depression, to name a few.
Put in this context, the coronavirus fears are likely to eventually pass. We may have already seen beginnings of this, with stimulus committed to combat the economic impact. This illustrates that markets are complex, with different investors trading for different reasons, meaning no one can predict the future in a concrete manner. We believe you should be suspicious of anyone who tries.
To really hammer home this message, consider this: The U.S. equity market has beaten cash in every 25-year period in its history. That’s not to say it always will, but it can give us some reason to believe that every dip in the road or downhill stretch won’t continue in perpetuity. Therefore, while the desire to move fully to cash is an understandable response to recession fears, it is unlikely to be in your best interests. We believe you should stay focused on your long-term financial goals and on doing what you can, especially saving more and investing smartly, to meet them.
At what point might you know when to make portfolio changes?
Importantly, we want to disclaim that we never know the perfect time to buy. Anyone that proclaims they can do so is likely lying or has been very lucky. Based on our decades of research, we’re convinced the best we can do is adopt probabilistic thinking, where we increase our positioning depending on how extreme the asset is priced. In other words, we may buy an asset if we find it attractively priced; if its price falls, we may buy more because – all else equal – it would have grown more attractive.
In today’s context, we’ve been very selective in any buying so far. For the most part, we would need to see many markets weaken considerably further before a great buying opportunity occurred. On top of the above, we have been very active behind the scenes. As this research comes to a head, we’ll seek the most appropriate ways to fulfill each portfolio’s objective and improve outcomes.
What do you say to those who fear this outbreak will trigger a global recession?
The first point to note is that recessions are a part of life. Very few people can consistently spot recessions – either the likelihood or magnitude – so we’re not sure this is a worthwhile pursuit. Instead, we must always be a step ahead of our own emotions, making sure these realisable risks are managed prudently.
To advance this thinking, all investors must expect periodic drawdowns, and we reflect this in our portfolios accordingly – that is, we seek not to optimise portfolios for one possible scenario but rather to build portfolios to be robust in any scenario. Within this context, the returns of our portfolios have remained within our expectations. We can therefore use these situations to focus our attention on looking for opportunities to improve the expected returns of the portfolios.
As long-term investors, we remain broadly defensive and aware of recession risks. Having said that, we are also ready to act quickly where structural or cyclical dispersion opens opportunities for long-term gain. Put together, we see scope for further market unrest but remain confident in our positioning if this occurs.
Morningstar continue to focus on providing quality financial information, however it is the client’s job to let their financial adviser know if they are feeling uneasy or their circumstances have changed. Should you have questions or concerns regarding the latest market positions, MeDirect’s wealth support team can be reached on (+356) 2557 4400 or on email@example.com.
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