The easing of restrictions is welcome news, received as a signal of starting the journey to some sort of normality. Quite what this looks like and how society adapts is unclear and leads to the other R word “recovery”, and more specifically what shape will this take.
The different types of recovery are often referred to by letters describing the shape as it might appear on a graph. The “V” shape illustrates the steep decline in value experienced to date, then the dramatic bounce of sharp recovery from the bottom of the V (that we’d all really like to see). Conversely, the L shape illustrates a sharp loss and no subsequent improvement in value and therefore no recovery. The U is a less dramatic turn around with a slow recovery gaining pace.
Before considering the circumstances under which each might play out and while perhaps better forgotten, it’s worth taking stock of what has actually happened in financial markets this year: the UK stock market (the FTSE100) lost almost 35% from peak to trough on 23rd March, then recovered some 25% in 23 days in the fastest rally ever seen. Exceptional circumstances.
The V recovery is the a “bounce” back recovery everyone wants. Realistically this would need a vaccine or effective treatment, an antibody test, and a quick return of consumer confidence and spending – basically a quick return to business, travel and life as we knew it before Covid’. This would include airlines and hospitality, and on that point alone, it looks pretty unlikely.
The L shape recovery is the really ugly, Armageddon scenario – it’s deep recession instead of recovery. This would most likely follow a significant, secondary wave of infections that overwhelmed the NHS, the re-imposition of a stricter lockdown with super-caution over the eventual easing. Furlough would give way to unemployment and the fastest stock market rally in history would be reversed to retest recent lows.
The base case is the U recovery which would follow a slow easing of restrictions as we tentatively emerge from lockdown, increased testing, no significant secondary wave and no further lock down. Recent events are consistent with this and the argument for a U recovery looks plausible.
While Central Bankers and some economists predict deep recession and economic data to support this, the expectation of recovery is already partly accounted for in current stock market value. In other words, some future earnings are already priced into the market, which seems reasonable. The base case U recovery and current valuations support around two thirds of the world economy returning to pre virus levels of production by the end of 2021 (after just 3 months to get here). Again, this seems a reasonable expectation.
Looking longer term, it seems there will be significant change to life, society and the make-up of our economy. Companies may wish to be less reliant on global supply chains, reversing the trend towards globalisation – look how quickly the car industry halted production when it’s supply chain stopped and how spectacularly the UK failed in the timely procurement or manufacture PPE.
Couple this with a government post-election pledge to support the return of a northern manufacturing base, the promised post Brexit land and the changing landscape of home vs office working – it seems reasonable to expect change in the make-up of our economy, raising a number of government policy questions.
I’m therefore delighted that Peter Duncan, former Conservative MP, now political commentator, has agreed to discuss this and other policy questions on a webinar I’ll host in 4 weeks. I met Peter last year and found his political insight of the then topical, Brexit debate, fascinating, which has continued with his commentary of current events. I hope you find him similarly interesting.
In the meantime, have a good weekend.
Regards
Kenny