Investor concern about the economy, both foreign and domestic, has grown substantially over the past several weeks. As you likely know, the coronavirus (COVID-19) has been the primary culprit for this market malaise, as the virus has already had a material impact on the supply chain and demand for several companies who operate in China. Fears of a pandemic have also greatly impacted other industries, not to mention investor psyche. So far the underlying fundamental backdrop remains in decent shape with GDP the annualized growth rate still being reported at 2.1%. This growth continues to be buoyed by a strong consumer, which accounts for more than two-thirds of the U.S. economy. Indeed, consumer confidence remains at levels near 20-year highs. This confidence is boosted by low unemployment, which at 3.6% lingers just slightly off record lows, and rising wages. Additionally, interest rates remain at very low levels, further boosting the consumer’s willingness to spend. We, of course, don’t know the ultimate impact of the COVID-19 virus. It could be over soon and be followed by pent-up economic demand and therefore create a great buying opportunity. It could last for quite some time and push the U.S. into a recession, and markets could drift significantly lower. The likeliest outcome is probably somewhere in the middle.
February equity markets saw the swiftest correction (defined as a 10% decline from highs) in history. All major indices, as well as all sectors, were significantly down for the month. The Dow Jones Industrial Average, with its concentration of large conglomerates which are likely most affected by a global slowdown, saw the largest decline at –9.75%. Somewhat surprisingly, emerging markets reacted the least negatively, being down 5.26% for the month, although still lagging most markets for the past 12 months. The NASDAQ, despite seeing a 6.22% decline in February, remains up over 15% during the past year. This pullback comes off all-time highs, and if history is any guide, provides a decent entry point for investors with a true long-term horizon.
As it pertains to investment portfolios, events like this are stark reminders why asset allocations are so important, with the fixed income market providing somewhat of a buffer in February. The U.S. Treasury market, generally regarded as the world’s safest haven, provided the best monthly return as investors flocked there to escape the coronavirus market contagion, posting a 2.73% monthly return. High yield debt, which is the bond market’s closest proxy to stocks, unsurprisingly posted February’s worst numbers, losing 1.55% for the month. Finally, responding to the potential economic impact of the virus, The Federal Reserve voted to reduce the Fed Funds rate by 50 bps shortly after month end, changing the target to 1% to 1.25%
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