Why are markets nervous?
This is due to the uncertainty of the current situation and how it will affect individuals, companies and countries. Without answers, the easiest solution is to assume everybody and everything is a risk, which has resulted in the large falls in the markets. However, once the situation becomes clearer, markets will recover as the winners and the unfortunate losers emerge.
Didn’t the Central Banks help calm nerves?
Central banks have taken two actions. Firstly, they have boosted the liquidity of the short-term lending markets, which could have seized up due to lack of liquidity. This was taken positively and help the market recovery at the end of last week.
The second action has resulted in an interest rate cut. This has not boosted confidence, as many have been emergency cuts and the overall effectiveness in boosting the economy in the short term is not clear, especially given the already low rate of interest. The market reaction is to ask, “what do you know that we don’t?”, as central banks are assumed to have access to economic data prior to all others and should know about issues before the market.
What will turn the markets positive?
In simple terms, the markets need to see some of the following to have a belief that the worst will soon be over:
- Evidence that we are not facing the worst-case scenario and that the actions taken to date are starting to be effective.
- Clear leadership and co-ordination between countries to control the spread of the virus, as the view is you are only as good as the weakest link.
- Positive news that the actions taken have reduced the spread of the virus within Europe and the US and that the restriction on movement can be removed within weeks rather than months.
- Information from companies about their sales and the scale of the impact, especially if this is not as bad as expected.
How do we foresee the markets in the next few months?
The main focus will be government actions and the spread of the virus. This will be a rollercoaster and daily falls and gains of over 5% will be common until a clearer picture is established, as mentioned above.
The next stage will be the flow of individual company news. Initially most of the news will be negative, such as large falls in sales and job losses, which markets will expect and will have priced in already to a certain degree, especially from travel and tourism related companies. If the falls are less than expected, we will see sharp rebounds in individual companies. The danger for the markets will be when companies start to report that they are financially strained due to underlying weaknesses or in the worst case, become bankrupt.
However, once we start to see the recovery in sales, the markets will be better positioned to reassess the prospects of individual sectors. This, combined with government actions to assist and speed up any recovery, should see a return to more normal market conditions.