COVID-19 and the socio-political responses to it present an opportunity for both market timers, those who try and trade around the shifts in market direction, and long-term investors. In a February 28 memo to Thornburg colleagues, we reflected on why we take a longer-term investment view, and have decided to make it public below. Monday’s market rebound in equities prices and sovereign bond yields illustrates why it makes more sense, at least to us, to focus on fundamentals, not tactical, sentiment-driven flows.

At Thornburg, we’re “macro” aware, but we invest from the bottom-up. And as long-term investors, we refrain from trying to time markets. We assess business fundamentals and valuations, and aim to own equities and bonds trading at attractive prices, in our qualitative and quantitative assessment, relative to their long-run prospects.

We see bouts of market volatility more as an opportunity to upgrade our balanced portfolios, not to tinker with them on a tactical basis in violation of our disciplined investment process. Tactical trading isn’t how we create value over the long run. The variables around the virus’ impact are so diffuse that trying to trade around them is a highly perilous exercise. Why?

• Will it prompt lasting changes in consumer behavior? Corporate strategy? Government policy? If not, trying to time shifts in consumer and business sentiment is a crap shoot divorced from longer-term business fundamentals. Panicked selling can before long become panicked buying. Big moves in sentiment-driven markets aren’t bad times to be contrarians. We’re not panicking or looking to move portfolios on daily news flow. We remain on the lookout for long-term opportunities.
• While some sectors are taking much bigger price hits than broad-market stock indices—airlines, travel and tourism, gaming, energy and metals producers—the longer-term business fundamentals may not be changing much. More than 160 million Chinese traveled abroad in 2018. It’s highly likely that number won’t be matched in 2020. But it’s reasonable to expect that, as with past viral outbreaks, from SARS to MERS (both coronaviruses), once the spread peters out, global tourism trends, including Chinese tourism, should bounce back.
• This isn’t to say we expect no structural shifts. Those are hard to call from black swans like this. But it’s likely Chinese-style, top-down change will come to the country’s healthcare system. The Soviet-era origin of its current structure has doubtless contributed to the virus’ spread due to the lack of a functioning primary care system: far too few general practitioners or well-equipped/staffed small- to mid-sized clinics and hospitals. Culturally, patients with minor maladies unnecessarily swamp overwhelmed specialists at large urban hospitals, which became centers of “community transmission” of COVID-19. Beijing in 2016 announced a health care reform, “Healthy China 2030,” to foster innovation and increase access to medical care. Progress has clearly been limited but will probably now accelerate. We’ll be watching how those reforms take shape.
• In the meantime, the balance in Thornburg portfolios should mean the asset price drops from those sectors harder hit should be offset by those from less-affected sectors, ie, with different cash flow streams and earnings drivers, helping our all-weather portfolios weather the storm.
• Lastly, a pertinent point from (Portfolio Manager) Matt Burdett: “We are all operating on imperfect information. While the death rate is high, it could be artificially high because we are not testing enough people. Potential clarity on this point from the CDC (Centers for Disease Control and Prevention) would likely calm nerves pending more data and time.” As of Friday, the World Health Organization reported 83,694 global confirmed infections, with 2,861 deaths, for a fatality rate of 3.4%. Common flu generally has a 0.1% mortality. Previous coronaviruses had far higher mortality rates: MERS, 35%; SARS, 9.5%.

Macro Landscape

Global equities fell into correction territory this week at a pace not seen since 2008, and about on cue the Federal Reserve announced Friday it would “act as appropriate to support the economy.” The Fed is widely expected to join the PBOC, China’s central bank, with two to three rate cuts in the months ahead as earnings and global growth expectations are being slashed. While the headlines are scary, the investment team is dispassionately assessing the challenges, including the dearth of information on the virus itself. It’s examining how the defensive sleeves in the portfolios are behaving and evaluating the contraction in valuations of companies across sectors, with an eye on the long-term, which is how we add value.

• Monetary stimulus can only help so much when supply chains have been disrupted and socio-economic activity retrenches. Responses by country to the virus’ spread will vary. The world is moving to include “mitigation,” not just travel-ban type “containment,” likely including temporarily shutting workplaces, schools, cancellation of large gatherings, etc.
• At this juncture, the rate of confirmed cases is dropping in China, allowing the country to slowly get back to work, but it’s rising elsewhere, raising the possibility of work stoppages; cancellations of conferences, conventions, concerts and sporting events; and reduced use of public transport, etc. While China can shut things down and quarantine large areas by government fiat, Singapore shows that in technically advanced countries “contact tracing” and case isolation can effectively mitigate spread.
• Economic data from China for the first months of 2020 will be ugly, and, as the world’s factory floor, it will spill over to its trade partners. But former Australian Prime Minister and China expert Kevin Rudd, who’s well connected in Beijing, said China is prepping significant, but targeted fiscal spending on infrastructure, which should mitigate the bubble-type excesses that its monetary stimulus created after the 2008 Financial Crisis while supporting a rebound in GDP.
• By the end of last week, China’s bluechip stock index had fully rebounded from its late January swoon on expectations that its central bank’s measured monetary stimulus and targeted fiscal spending would support economic recovery in the second quarter. The CSI300 is down 5% this week on the virus’ global spread–not nearly as much stocks elsewhere. Given record low bond yields, including roughly $900 billion of negative-yielding corporate bonds, price-wise, stocks are even more attractive relative to bonds than they were at the start of the year. Quality companies with strong fundamentals and visibility into long-term earnings drivers will be around long after this virus, like the previous coronaviruses, recedes.