Weekly investment update – 26 August 2020

The resurgence of
COVID-19 cases in Europe remains a cause for concern. US stocks remain close to
their recent highs. Tomorrow’s speech by Chair Powell is keenly awaited as the
main event for markets this week.

COVID-19 – again, a mixed picture

As of 25 August close to 24 million cases of COVID-19 have
been recorded and over 800,000 fatalities have been registered.

After several months in which the United States has been
centre stage, attention is shifting back towards Europe, where there has been a
clear increase in the number of reported cases in recent weeks, although to
date there has not been a corresponding surge in hospitalisations and
fatalities. This predominantly reflects a combination of two key factors:

• Firstly, cases have likely decoupled from hospitalisations
  and deaths on account of what could loosely be called the iceberg effect. At
  the start of the crisis there was limited testing capacity and the people who
  were tested for COVID were typically those who already presented with acute
  symptoms. There was unsurprisingly a pretty close link between cases and
  hospital admissions and deaths because we were only observing the worst cases.
  Most people who caught the virus and presented with mild symptoms did not need
  to be admitted to hospital. They were not tested and therefore not included in
  the statistics. Now that testing capacity has increased we will continue to
  capture the acute cases but we also can identify and record many more of the
  mild cases. So long as testing capacity does not diminish it is reasonable to
  assume that this feature will persist.
• Secondly, the demography of the caseload has
  shifted. For example, in the United Kingdom the number of cases has risen in
  almost all age groups in recent weeks except those aged over 70, but the increase
  has been particularly marked among people under the age of forty. This shift in
  the caseload away from those most likely to present with acute symptoms towards
  those groups that are least likely to present with acute symptoms will
  inevitably cause cases to decouple from hospitalisations and deaths. Whether
  this feature will persist is less clear. If the virus is spreading rapidly
  again through the younger cohorts of the population then it may be difficult to
  prevent it reaching the older cohorts who are more susceptible – particularly
  when one considers the possibility of transmission within households – and then
  with a brief lag that would lead to rising hospitalisations and fatalities.

The situation is a clear cause for concern. The Robert Koch
institute in Germany has warned that the entire population must continue to
consistently observe social distancing rules including outdoors, and where
appropriate wear face mask correctly. The principal policy response has been to
mandate the wearing of face masks in an ever increasing share of the public
sphere, including the classroom. We suspect that forceful action on this front
will prove sufficient to prevent a recurrence of the health crisis of Spring
2020 and ultimately a return to full lockdown. However, an increase in
fatalities seems likely and we note that the French Prime Minister is ruling
nothing out.

Trials for a vaccine on track

On a slightly more positive note, we have been tracking the
progress of the Oxford University research team for many months now in their
search for a vaccine and there is reassuring news that the trials which are
taking place in the United Kingdom, Brazil and South Africa and soon the United
States are still on track. Professor Andrew Pollard commented that “it is also just
possible that if the cases accrue rapidly in the clinical trials that we could
have that data to put before regulators this year” whilst the head of the Paul
Ehrlich Institute (the federal agency responsible for vaccines in Germany),
stated that if the trials show that vaccines are effective and safe then “the
first vaccines could be approved at the beginning of the year”. However, it is
less clear to us that good news on this front would have a seismic impact on
risk assets – in part, because it appears that investors have brought forward
expectations of the likely arrival of a vaccine and in part because of the
rally in equity prices.

Economic data – slowing
momentum?

As far as economic data goes, the key release over the last
week was the preliminary batch of Purchasing Manager Indices (PMI) data for the
Eurozone in August. These data remain a core indicator of the current state of
the business cycle, as companies report month-to-month changes in activity,
orders and employment far in advance of the official data. The latest PMI data
are not entirely encouraging. The headline activity balance in the eurozone
fell back to a 2 month low and the balance for the services sector retreated to
within a whisker of the 50 “no change” mark. To some extent, this reflects the
fact that the PMI data exclude the retail sector, which has recovered more than
most, but includes the tourist-facing sector, which in some places may have
been affected by the return of travel restrictions. Nonetheless, the data do
suggest a loss of momentum in the recovery.

The GDP data released in recent weeks enables us to provide a comparison of the variations in second-quarter 2020 GDP among developed economies relative to the previous quarter. In Exhibit 1 data for US GDP is not shown on an annualised basis (-32.9 % in second quarter 2020) in order to compare it with the European data. These are of course the first estimates of GDP and may well be subject to greater revisions than usual. Differences between countries are linked partly but not exclusively to the severity of the lockdown measures. The structure of the respective economies also plays a crucial role. In particular, the importance of services such as the tourist industry within GDP is probably the main cause of variation. Household consumption, which has fallen heavily everywhere, is another important component of GDP. The behaviour of and state of mind of consumers with regard to employment spending and saving will be critical in coming months.

US policy centre
stage

The United States is centre stage on the policy front for
a number of reasons. First, we are almost through conference season before the
final sprint through the presidential debates and then Election Day on 3
November. Joe Biden continues to enjoy a significant lead in the polls and the
Democrats still appear to have a significant chance of taking back control of
the Senate whilst retaining control of the House. Speaking of Congress, there has
been a failure to agree a fresh stimulus package and little progress is likely
in the coming days. Failure to deliver would pose a material downside risk to
the recovery in the United States.

Finally, attention will now turn to the Jackson
Hole conference, which takes place online this year, and in particular on
the comments by Chair Powell about the Federal Reserve’s review of monetary
policy, including how it calibrates interest rates and other tools to try to
reach its inflation aims.

Markets quiet ahead
of Fed meeting

US government debt prices have fallen slightly this week.
As a result, the yield on 10-year US Treasury note climbed 3 basis points (0.03
percentage points) to 0.712%, bringing the rise since the end of last week to
about 8 bps. US Treasury note yields have increased from around 0.5% cent at
the end of last month. German and UK sovereign debt have followed their US
counterparts, with the yield on the benchmark 10-year German Bund rising 2 bps
to minus 0.4%.

In Europe, stock markets have steadied ahead of the Fed
meeting, balancing a record-breaking streak on Wall Street. Asia-Pacific stocks
have traded without great enthusiasm from investors, even in the wake of
another record run on Wall Street, as optimism on US-China trade talks has
dissipated

In the US the S&P 500 index is set to remain close to
a third consecutive record high that it set yesterday at the close. The
technology-weighted Nasdaq Composite is also close to its recent highs. These
indices are on course for their fifth straight monthly gain. The S&P 500
has climbed more than 5 %, with the Nasdaq up nearly 7% so far this month.

Any views expressed
here are those of the author as of the date of publication, are based on
available information, and are subject to change without notice. Individual
portfolio management teams may hold different views and may take different
investment decisions for different clients. This document does not constitute
investment advice.

The value of
investments and the income they generate may go down as well as up and it is
possible that investors will not recover their initial outlay. Past performance
is no guarantee for future returns.

Investing in
emerging markets, or specialised or restricted sectors is likely to be subject
to a higher-than-average volatility due to a high degree of concentration,
greater uncertainty because less information is available, there is less
liquidity or due to greater sensitivity to changes in market conditions
(social, political and economic conditions).

Some emerging
markets offer less security than the majority of international developed
markets. For this reason, services for portfolio transactions, liquidation and
conservation on behalf of funds invested in emerging markets may carry greater
risk.

Writen by Marina Chernyak. The post Weekly investment update – 26 August 2020 appeared first on Investors’ Corner – The official blog of BNP Paribas Asset Management.