Prognosticating China’s Coronavirus-struck Markets
If the novel coronavirus’ spread hurts some industries, others are positioned to benefit from the fallout. Examining the short- and long-term implications of the virus’ effect on global supply chains.
As China scrambles to contain the outbreak of novel coronavirus, markets are frenetically adjusting to reflect the latest assumptions about the epidemic’s impact on corporate earnings and the global economy. The gyrations in index and asset price levels will no doubt continue as investors in emerging and developed markets gauge the short-term hits to consumer and business sentiment and supply chains amid Beijing’s efforts to cushion the blows with monetary and targeted fiscal stimulus.
Correctly parsing the useful signal from the noise isn’t easy. Long-term investors should also understand what’s directionally accurate, while appreciating that timelines for realignment of security prices and business fundamentals are slippery.
That’s partly because, as on-going assessments from the World Health Organization (WHO), the Centers for Disease Control and Prevention and The Lancet suggest, the virus’ incubation period may potentially run up to two weeks while its transmission may occur asymptomatically–before someone infected exhibits respiratory distress. Those factors make the virus’ spread difficult to forecast, particularly in conjunction with inadequate patient testing capacity. Nonetheless, the health care team at China’s CITIC Securities reckons the peak should come in late February or early March, given the coming of spring and unprecedented Chinese and global containment efforts.
It’s still very early days, but some encouraging news may be found in the apparent leveling off since late last week in new confirmed cases, with recent readings running slightly below the seven-day moving average. As of Febuary 10, the cumulative number of confirmed cases globally surpassed 40,000, while the death toll hit 910, more than those who died from the SARS outbreak in 2002/2003. By way of comparison, the SARS outbreak, which took eight months to contain, infected 8,098 people and killed 774. That made for a fatality rate of nearly 10%, which is five times greater than the apparent 2.2% death toll for the 2019-nCoV. So, if SARS was more deadly, the new coronavirus seems more virulent and may end up claiming more lives.
That may be why China is pursuing draconian containment measures. It quarantined the province at the epicenter of the outbreak, Hubei, which has a population of nearly 60 million people, more than two weeks ago and shortly thereafter extended the Lunar New Year. Many business and industrial centers across China have also closed to crimp the virus’ spread. But according to CLSA, 19 provinces re-opened for business on February 10, although Hubei remains locked down until February 14.
The containment efforts also remain vigorous outside China, with 47 governments having implemented travel restrictions and two dozen commercial carriers having decreased passenger or cargo capacity, according to International Air Transport Assoc. data cited by CLSA.
The Virus’ Varying Effects on Industries
China’s index and asset price levels mirror the latest assumptions about the economic and earnings impact of the blows to consumer and business sentiment, as well as to supply chains. Among the hardest hit industries in China are, unsurprisingly, transportation, autos, energy, materials and real estate. Banks will also have a hard time near term, given interest rate declines that will undercut net interest margins and a potential rise in provisions, according to Thornburg Portfolio Manager Lei Wang, who recently returned to the U.S. safe and sound from a three-week research trip in China. On the flip side, select companies in some industries are benefiting, particularly those related to e-commerce, social media and online gaming, along with chipmakers and data centers, as streaming and data usage accelerate, adds Wang, who runs international equity strategies at Thornburg.
Outside China, European and Korean automakers, among others, are reporting declining inventories and limited visibility into when their original equipment manufacturers in China will get back on line and resume shipments, Wang adds. Longer term, thanks to the high efficiency of China’s production platform, neither the new virus nor its trade dispute with the U.S. should cause a realignment away from the Middle Kingdom’s pole position in the global supply chain, notes Josh Rubin, who focuses on Thornburg’s emerging market strategies.
China’s Inflation to Run Hot?
China is poised to halve tariffs on various U.S. goods imports to 5% on February 14 as part of the “Phase One” trade deal, and drop levies on some items to 2.5%, while the U.S. will cut tariffs on some $120 billion of imports from China to 7.5% from 15%. Given that China is in many respects at a standstill, it’s unlikely that it will be able to meet its commitments to purchase $200 billion in goods and services from the U.S. over the next two years as part of the deal, said Wang.
Wang warned inflation could accelerate in China, given virus-related bottlenecks in production on the one hand and coming hikes in government stimulus spending on the other to cushion the epidemic’s economic impact. The latest forecasts put China’s first-quarter GDP growth at 4% to 4.5% on year, down from close to 6% in fourth quarter of 2019. China’s public budget deficits and debt levels are poised to rise, which could pressure the renminbi and highly leveraged domestic companies. China’s annual CPI rose to 4.5% by the end of 2019 from 1.5% in February 2019, driven largely by spikes in vegetable and pork prices, which were in turn affected by hog herd declines due to swine flu.
Wang said he’s selectively picking up stocks or adding to existing positions where share prices have fallen, but forward earnings expectations have been holding up or improving.