In today’s Exponential Investor

  • Finding parallels with March 2020
  • And luckily, some differences too
  • Look underneath the hood – the check engine light is on

Probably like you, I remember clearly how I felt before markets crashed last March.

At the time, I thought that market valuations were very stretched (now they are even more so). And on the coronavirus front, when I saw the charts showing exponential growth in cases in Italy and elsewhere in Europe, I thought: that’s going to be us soon. 

So when the first big down day came for markets, I thought, this is it.

This time around, we had a Friday crash in the region of 2-3%. So it’s worth figuring out how similar the setup and threat are, and what differences we should be aware of.

Not my problem?

One narrative that feels different is….

“It’s not that bad, and it’s not here.”

That’s what a lot of people were thinking as markets hit all-time highs in early 2020 – before the coronavirus-inspired crash.

This time around, the global response has come quicker, and travel and other restrictions in the UK and elsewhere are being rolled out much faster.

“Oh, it’s just a problem in China” now reads “It’s in Africa, but it’ll be here soon”. That’s one big difference.

Also, people are doing what I’ve always advocated… if you’re going to panic (even just a little bit, like last Friday), do it early. The immediate response so far has been to fear the unknown vaccine-resistance elements of this new variant, unlike last time when red flags were ignored by investors, until they all sold at once.

As they say, hope for the best, plan for the worst. So vaccine makers are already hard at work figuring out resistance capabilities, and possible modifications to counter them.

So that’s another thing that’s different: We’re better prepared, especially with regard to vaccines and our own response to the threat.  

The market is stable, for now…

Oil prices fell very sharply, which was an acceleration of a gentle downward trend of the past few weeks.

Broadly speaking, on Friday industrials (DJIA) did worse than tech (Nasdaq). So the software and tech companies that did well when the pandemic first struck last March, did well again, while travel and leisure were hit hardest. Not a huge amount to see here, all quite familiar at this point.

Shares of exercise equipment maker Peloton bounced, but were already down 70% from recent highs. In 2000 and the dotcom bust, the most speculative winners of the hype cycle were the first to die. Legendary investor Jeremy Grantham has pointed out the way in which former market leaders faltering, while indices carry on to new highs, can be an indicator of a bubble bursting.

The weekend saw markets stabilise though, but not evenly.

While Europe and the United States bounced, Asian stocks continued lower. It will be interesting to see how that divergence plays out, but perhaps it’s nothing.

The basic state of play, once more, is uncertainty. We have a sense that this is the most serious variant yet, but no detail. As such, because the stakes are so high (the last Covid hit was a 30-40% swift bear market), it could make sense for investors to take some profits of the past year.

On another front, we are also much better prepared than last year, in terms of vaccines. But it’s hard to say whether policies are better.

Is the NHS much better prepared now than it was then? Yes… and no. We understand better how to treat the disease. Vaccines have helped enormously with fewer deaths and hospitalisations relative to cases.

Meanwhile, testing itself is much more commonplace, and people will quickly know to wear masks, wash their hands and avoid busy places as much as possible.

However, lockdowns are politically even more unpalatable than before.

And the NHS was already in crisis mode before this new variant arrived, despite lower levels of hospitalisation than in previous waves.

Finally, it’s worth wondering whether we should be surprised that this has happened. It’s long been clear that variants would continue to emerge from populations with a lower percentage of vaccinated people – possibly with vaccine-resistance.

The virus is evolving, and if given oxygen to breathe, will evolve and those which are most resistant to vaccines will spread.

Is this a failure of coordinated international policy?

In classic fashion, it could have been in our own self-interest to be charitable in our distribution of vaccines across the world. But alas, that hasn’t happened, and here we are. There’s certainly more to it than that, but I imagine that the vaccination approach may become more global and charitable in the wake of this current news.

Narrative, or fundamentals?

In March 2020, the “covid crashed the markets” narrative ruled the roost. Although after pushing relentlessly higher markets had been due some trouble anyway, the direction of global indices tracked sentiment about the virus and its exponential growth – while the bear market ended with the big bazooka of central bank support in the United States.

This time, perhaps the narrative will rule the indices once more.

In that case, I don’t expect the market hit to be as bad as the first wave. We are better prepared and have come out the other side once already.

For markets to take a more serious, prolonged nosedive back towards reasonable valuations, fundamentals would need to take hold once more.

I don’t know how likely this is, only that if it does turn out that way, it couldn’t be exceptionally brutal. Now? Maybe. At some point? Almost certainly.

With that in mind, I find the correlation with last Thursday’s piece interesting.

Across a number of different channels I saw a number of different, brilliant analysts sounding the alarm. Like how cows all sit down when rain is on its way.

Sometimes you don’t have to know the nature of a threat to fear it, and last week I just got a sense that something wicked this way comes. A sense of impending malaise.

The human body can often react before the mind knows what it’s doing. Likewise, the hivemind of international markets can flash red before a visible threat appears.

I wonder if this new variant is the cause of the shudders that some market participants felt last week, or whether the drop on Friday – ostensibly because of the Omicron variant – was exacerbated by existing weakness in the structures underpinning the market.

The mainstream response was “new variant crashes stocks”, but as so often, it pays to think a little more deeply about how true the most popular beliefs are.

As the situation develops, we will continue to try and understand the true drivers of markets in the short and long term.

All the best,

Kit Winder
Editor, Exponential Investor