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Coronavirus brings a new normal: Don’t buy the dip and watch out for recession

The signs are in for a deep and sustained fall in stocks over the next couple of months as the US grapples with growing fear over the long-term effects of the new coronavirus. Investors who bought the dip on Tuesday’s huge slide in the expectation of a reversal the following day were greeted with another slate of numbers diving further into the red. 

Panic has set in across Wall Street. The Dow Jones Industrial Average fell by 1,031 points on Tuesday, or 3.6%, and 838 points on Wednesday, or 3.1%. It’s the worst two-day slide in four years. US futures suggest the American bellweather will open 960 points or more lower today. In the UK, the FTSE 100 has fallen under 7,000 for the first time since January 2019.

US coronavirus outbreak ‘inevitable’

A coronavirus outbreak in the United States is now inevitable, a top public health official said on Tuesday.

It’s not a question of if, but rather a question of when and how many people in this country will have a severe illness,” said Nancy Messonnier. She is a director of the National Centre for Immunization and Respiratory Diseases, part of the Centre for Disease Control and Prevention. 

Ultimately, we will see community spread in this country,” she said. “Now is the time for hospitals, schools and everyday people to begin preparing as well.”

Concerns are growing that the outbreak could become a full-blown pandemic. While the World Health Organization has thus far resisted this label, when North and South America starts to see significant spread, this could become a reality quicker than we think. 

Covid-19 is difficult to detect, has a disproportionately fatal effect on the elderly, and can be transmitted to large groups of people even by those who do not show any outward symptoms.

To catch a falling knife

Scott Minerd, a macroeconomic commentator and chief investment officer at the influential Guggenheim Partners, tweeted on Tuesday evening that: “This is not a buy the dip market. It’s a don’t catch a falling knife market.”

Speaking to CNN he warned that there was a severe downside risk in the near term with as much as a 20% selloff from recent highs. Minerd has been warning since early 2019 that a recession was on the cards.

In a 13 February piece, he outlined his thoughts on how coronavirus exposed the underlying weakness in global trading: “In the markets today, yields are low, spreads are tight, and risk assets are priced to perfection, but everywhere you look there are red flags. The latest red flag is the coronavirus.”

His thoughts were echoed by economist Mohamed El-Erian, chief investment officer for Allianz in a Tuesday interview with CNBC. “I would say continue to resist, as hard as that is, to simply buy the dip because it has worked in the past.” 

China the key

Minerd writes that China’s GDP growth for Q1 2020 could be slashed to minus 6% from the already-slow 6% growth in the Q4 2019. That would shave around 200 basis points from global growth.   

As we have written before the impact of Covid-19 could be much more devastating than the last major outbreak — SARS in 2002 — because China now comprises a much greater proportion of the global marketplace. 

In the last two decades, China has become the de facto home of global manufacturing and has increased its share of the world economy from 4% to 16%. The long-term impacts of shuttered factories, quarantined workers, emptied bars and restaurants and quiet streets have yet to be seen.  

Supply shock

Investors are used to dealing with the effects of negative demand. Central banks and policymakers can use the tools at their disposal to soften the blow. But supply shocks are “much more complicated” to deal with, according to Erik Nielsen, chief economist at UniCredit Bank. 

Companies and economists now suggest it could be months before China’s supply chain is back up to full speed. 

Central banks will not want to stimulate demand by lowering interest rates further, especially if there are going to be significant difficulties throughout 2020 in companies being able to meet demand. We could even see interest rates rise.

As research analyst at Canalys Nicole Peng told The Associated Press on Wednesday, smartphone components suppliers say production is as little as 10% of normal levels. “The bad news is that there will be further impact, and the impact is worse than a lot of people expected.”

And we are not even close to being over the worst of the effects of coronavirus. Minerd speaks to this point, writing: 

At the same time that China is being forced to shut down factories and quarantine workers, interruptions to the supply chain in the United States and Europe have yet to be felt. By most estimates, if the Chinese extend the lunar new year by two weeks it would not meaningfully impact the global supply chain, but if it went beyond two weeks then we would start to see problems for materials and consumer goods outside of China. The impact of all this on corporate profits and free cash flow will be dramatic. The effect on oil and energy prices could be even more extreme.

All of this tells us one thing. Buy the dip will no longer work. Investors face the prospect of a falling markets as the new normal.

Valuethemarkets.com, Digitonic Ltd (and our owners, directors, officers, managers, employees, affiliates, agents and assigns) are not responsible for the content or accuracy of this article. The information included in this article is based solely on information provided by the company or companies mentioned above.

This article does not provide any financial advice and is not a recommendation to deal in any securities or product. Investments may fall in value and an investor may lose some or all of their investment. Past performance is not an indicator of future performance.

  • Patricia Miller does not hold any position in the stock(s) and/or financial instrument(s) mentioned in the above article.
  • Patricia Miller has not been paid to produce this piece by the company or companies mentioned above.
  • Digitonic Ltd, the owner of ValueTheMarkets.com, has not been paid for the production of this piece by the company or companies mentioned above.

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