Valuing hope in today’s market

Since my last article seven weeks ago a lot has happened both globally and in the financial world in particular. Markets were about to reach the bottom, whereas the COVID19 was spreading across the globe at an exponential rate. Nevertheless, the double-digit declines witnessed in the shortest timeframe ever recorded was somehow short-lived coming to a halt on March 23. This was not because the novel virus stopped spreading or because we were anywhere near to a pre-COVID19 scenario. In fact, as more swab tests were being carried out across the globe, the number of confirmed cases, if anything, shot up from 378k on March 23 to 3.8 million by May 6 – and unfortunately so did the death poll, from 17k to over 260k. So, how come markets have reacted the way that they did? In one word, HOPE!

By definition, hope is a feeling of expectation and the desire for a particular thing to happen. A positive outcome which is yet to happen. And who is not hoping for better times ahead? With many stuck at home, binging and turning into a couch potato in a matter of weeks, everyone is putting substantial weight and value on what to expect over the weeks to come as lockdown measures across the globe start to ease. Obviously, what is to be expected varies substantially across different sectors and countries, and when or whether at all we will go back to normality is doubtless a very debatable topic.

Pretty much, valuing hope is just like a company’s market value. The market value or share price of a company is not based on what profits the company has generated in the past. Or at least, this is usually not always given that much weight. I am not arguing that having a good and sound financial track record does not warrant some extra brownie points, but, more importantly, today’s value of a company ought to be the discounted future cash flows of what it is yet to potentially generate. Tesla, Snap, Pinterest, Uber or Lyft, to mention a few, are all billion-dollar companies which are yet to turn a profit. So why are they worth billions? Well, because investors have great expectations and prospects for these game-changers. Just like Amazon was a few years back before turning its first quarterly profit – and now the most valuable company in the world.

By no means am I trying to suggest or recommend which company you should invest in next time round you have some spare cash to speculate with. All I am saying is that, more often than not, future expectation is what drives the financial world. And that is why perhaps markets have reacted the way they did since the trough reached in the third week of March. The hope, the desire, that somehow all the money thrown into the economy by governments, together with enhanced monetary easing measures by central banks will cushion the blow brought about by COVID-19. This, combined with data showing a slower rate of increase in spread as countries like the US, Germany or Italy start easing lockdown measures, has exacerbated expectations that not so far in the future we will be returning back to a new – better than today – normal. Better than today in the sense that it would be unwise to think that most economies will return to the pre-COVID levels anytime soon.

Having a closer look at how the bond and equity markets have fared over the past weeks, we have seen bullishness reflected differently as a result of some distinguishing attributes. For instance, in the US, the broader equity market as measured by the S&P 500 index, by the end of April had rebounded by 30% since markets bottomed in March. This translates into a year-to-date loss of some 10% (as at 30th April), and 14% from February’s highs. The downside impact, given the nature of such crises, was substantially mitigated as a result of the index’s constituents. Round-about a fourth of the index is made up of tech companies – and that would increase to over 30% if one had to also include back Alphabet (Google) and Facebook, currently classified under the telecommunication services sector. Adding other less impacted sectors such as healthcare (15%+), consumer staples (8%+), telecoms (4%+ after adjusting for Google and Facebook as above) and utilities (3%+) in aggregate make up for more than 60% of the market.

In fact, a good indication would be the heavy-weight tech Nasdaq 100 index, having rebounded by over 28% since 20th March, and still in positive territory by 3% since the beginning of the year. This compares to a staggering 61% rebound in the MSCI US Investable Market Energy Index since March lows by end of April, and yet still down by over 37% since the beginning of 2020. But, nonetheless, this had a mere impact on the overall index, with a representation of less than 3% in the broad S&P 500 index.

Closer to home, the Eurostoxx 600 index’s rebound as at end of April stood at 21%, but still down by over 18% since beginning of the year. However, compared to the US market, although both indices have a comparable healthcare and consumer staple sector weightings, the tech sector in Europe only accounts for some 6%. This might partly justify the underperformance witnessed so far, coupled with the fact that we have also witnessed more fiscal division in the EU when it comes to combating the impact COVID-19 left on most economies.

On the fixed income front, starting off with the European high yielding corporate debt market, by end of April had rebounded by over 19% from March’s low, while still more than 12% lower since the start of the year. Similarly, on the US high yielding front, the market rebounded by over 15%, while a negative return of 10% still holds for the first four months of the year.

Shifting onto the higher-quality end of the spectrum, across which we have also witnessed a considerable sell-off during the March-COVID havoc, yields have since retreated as bond prices ticked higher. On the sovereign debt front, the yield on the 10-year German Bund declined from a high of negative 0.18% in March to a negative 0.6% at end of April, before reversing some of the gains, as yields ticked higher to around -0.5% at the time of writing.

A similar trajectory was also recorded across US treasuries, as the yield on the 10-year note declined from 1.26% in mid-March to 0.62% by end of April – with selling pressure resurfacing over the past week as the US government laid out plans with respect to a record $3 trillion borrowing debt programme as markets were eagerly waiting for the latest jobless claims figures.

The shape of the recovery remains still uncertain as most forecasts remain subject to a lot of “ifs” with a wide range of possible outcomes varying from more optimistic to less optimistic scenarios, both locally and internationally – mostly linked to when a vaccine to COVID-19 is ultimately found and widely available across the globe. Therefore, valuing hope is not a straight-forward assessment, and one should not fear out, but rather cautiously ride the wave that lies ahead of us. Proper risk profiling and ideal strategic portfolio composition is warranted more than ever. Although no one has a crystal ball predicting what to expect – particularly with the likes of not knowing what to expect from president Donald Trump and his retaliations with China re-emerging – I hope that investors are savvy enough to stick to their long-term financial needs and objectives. Avoiding unnecessary cash hoarding while seeking guidance to take the most opportunity of the current economic environment might be one of the most important decisions one ought to make in the next 10 years.


Colin Vella, CFA, is Head of Wealth Management at Jesmond Mizzi Financial Advisors Limited. This article does not intend to give investment advice and the contents therein should not be construed as such. The Company is licensed to conduct investment services by the MFSA and is a Member of the Malta Stock Exchange and a member of the Atlas Group. The directors or related parties, including the company, and their clients are likely to have an interest in securities mentioned in this article. Investors should remember that past performance is no guide to future performance and that the value of investments may go down as well as up. For further information contact Jesmond Mizzi Financial Advisors Limited of 67, Level 3, South Street, Valletta, on Tel: 2122 4410, or email [email protected]