Was this the perfect stock market storm?

By Ryk de Klerk Time of article published Mar 16, 2020

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JOHANNESBURG - Anxiety turned into fear and panic in financial markets last week as travel bans to stem the spreading of the Covid-19 virus and an oil price war between Saudi Arabia and Russia shattered investor confidence.

The effective lockdown of countries around the world was reminiscent of the collapse in global trade during the 2008/09 financial crisis.

This time around, the central banks of the major economies acted without avail to free-up liquidity. Severe liquidity concerns surfaced as corporate bond fund managers were struggling to deal with outflows.

Significant concerted intervention in global financial markets had stopped the rot late on Friday as the US Federal Reserve injected around one-and-half trillion dollars into the US’s key funding markets.

In addition, the Fed was likely to cut the federal funds rate by a full percentage point this week.

Yes, stock market volatility has probably peaked as the CBOE Volatility Index revisited the peaks of the previous major stock market crashes of 1987 and 2008/09.

Global equity markets in developed economies as measured by the MSCI World index in terms of US dollars ended the week 25percent lower than at the beginning of this year.

Other risk indicators have subsided and gold had its worst week in a long time as near-term futures fell by nearly $100 (R1616) per fine ounce.

According to my calculations, the valuations based on Robert Shiller’s cyclically adjusted price-to-earnings ratios (the ratio uses average earnings over the past 10 years and smooths out the impact of business cycles) of the US stock market and other stock markets in developed countries around the world indicate that stocks are trading at similar valuation levels experienced in 2016 during the Chinese crisis and Brexit announcement.

The announcement of the oil price war also took the oil price to the same lows experienced during the global financial crisis in 2008/09 and the said crises in 2016.

Global market valuations are still some 20percent higher than during the euro debt crisis and confidence crisis in the US in 2011/12.

Last week’s fall on the JSE was the biggest fall since September 1998, with the FTSE/JSE All Share Index down by more than 15percent from the close of the week before.

According to my calculations the valuations based on Robert Shiller’s cyclically adjusted price-to-earnings indicate that the JSE is now in reach of the lowest valuation levels recorded in the first quarter of 2009 during the 2008/09 global financial crisis.

President Trump’s announcement on Friday that the US would increase its crude oil reserves will put a floor under the oil price and may catch traders with short positions in oil futures.

It is also evident that the Baltic Dry index has moved from its lows, thereby indicating that international trade may be picking up.

Yes, pockets of value are appearing and I will not be surprised if markets stabilise and eke out a significant relief rally from the current depressed and oversold levels. But will it be a denial of a bear market in stocks?

The biggest threat at this stage is the relatively illiquid 9trillion dollar corporate bond market in the US.

With the shutdown of major travelling industries, the fall in the oil price and the fallout of lock-downs on other industries the US Federal Reserve will have to continue to provide liquidity to avoid a similar liquidity trap caused by the Lehman debacle in 2008.

That will do much to support business confidence but the fear of the spread of the dreaded Covid-19 and the impact thereof on the global economy are likely to continue to suppress confidence in coming months - similar to the fear that we saw before the bear market ended in early 2009.

At this stage I think most of the panic in the markets are over, but volatility will remain elevated over the next few months.

Euphoria will only return to the markets when the battle against Covid-19 is won. Global consumer staples and bombed-out energy stocks are my own low and high-risk preferences at this stage.

At this stage I am inclined to buy the dips. The South African market looks especially interesting, but the risks are high as Covid-19’s impact on the workforce could be severe. Do not capitulate though, and beware of being caught up in the swings.

Ryk de Klerk is analyst-at-large. Contact [email protected] His views expressed above are his own. He has no direct interest in any company if mentioned in the article. You should consult your broker and/or investment adviser for advice.


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