Mid-week update: 1 July 2020

This week the mid-week update coincides with the end of the second quarter. Despite concern over news of rising Covid-19 infection rates in the US and elsewhere the week to Tuesday’s close saw the UK top 100 index add 0.8%, the US S&P500 Index decline 1.0% and Europe’s Euronext 100 Index end 1.7% lower. As expected, the quarter saw a recovery in stock markets as investors looked through the near-term economic damage inflicted by Covid-19 to the gradual return of normality. Those markets rose by 13.1%, 25.5% and 18.0% respectively.

As we move into the third quarter of the year we will start to hear more about how the return to normal is working out for the companies that make up the stock market. We are also likely to get a better feel for the underlying problems lockdown has left us, for example how many jobs have been lost and how rapidly people return to their old way of life.

After such a remarkable and challenging six months it is worth recognising how much progress has been made from the dark days of late March when panic selling saw equity markets hit their lows as Covid-19 infection rates soared. The UK, Europe and US have re-opened the majority of their economies for business once again. While there has been no single ‘knock-out’ medical break-through such as a vaccine our ability to treat the virus has improved, both in terms of physical capacity – critical care beds and ventilators – and of treatment – for example the use of existing drugs that improve survival rates. While it is easy for the Press to find examples where the social distancing message is being ignored, a far greater number of people are now actively trying to prevent its spread. Together with the introduction of Test and Trace, these measures will go a long way towards allowing people to return to their normal way of life and for the authorities to deal with outbreaks without the need for national lockdowns.

While the initial spread of the virus caused a panic sell-off, the impact of any subsequent wave of infections on equity markets is likely to be modest.

All this has come at a cost and left governments promising high expenditure that will eventually need to be paid for by higher taxes and higher government borrowing. The rapid return of the financial support measures we saw during the global financial crisis of 2008 have prevented adding a credit crisis to a medical one but has driven government bonds yields close to zero in the US and UK, leaving very little scope for further gains in prices. But with the prospect of more government borrowing we view this as marking the end of a near forty-year decline in government bond yields that now virtually guarantees losses to holders even if we see only modest inflation in future. While there may be opportunities in corporate bonds as companies recover and perhaps in government index-linked bonds, our attention is increasingly drawn to Alternative assets both for similar returns but also to fulfil the traditional role of fixed interest bonds – counter-balancing the volatility of the shares in portfolios.

It has been hard not to notice the gradual closure of so many familiar retail names over the past few years, driven out of business by competition from the internet giants and higher property taxes. The onset of Covid-19 and the emergency transition to home working – successfully in most cases – has left many companies re-evaluating their requirements. With landlords generally in a weak position to negotiate rents or maintain them at current levels we see better opportunity in other parts of the market.

We remain optimistic on returns for long-term investors and, in time, for the resumption of dividends.