Josh Starkey provides a round-up of what’s been happening in financial markets, with a focus on US and New Zealand election outcomes, the ongoing COVID-19 pandemic and what negative interest rates may mean for New Zealand investors.
COVID-19 is showing few signs of slowing down. Global infections are nearing 50 million, and global deaths are creeping closer to 1.5 million. The US continues to reach new daily highs in case and death numbers, and the UK has moved into another nationwide lockdown. The consequence of this is an estimated 4.4% drop in global Gross Domestic Product (GDP), equating to around a US$6 trillion drop in economic output.
The significant level of uncertainty has led to high levels of volatility in the market. This has been particularly evident in more recent weeks due to the US election. Nonetheless, US share markets remain in an upward trend from their March lows, with the S&P 500 and NASDAQ indices reaching all-time highs in August. Markets in the rest of the world haven’t experienced the same success – with UK and European shares down 22% and 16% respectively, and ongoing Brexit negotiations adding to the issues that the region is facing.
On the positive side the International Monetary Fund projects global growth of 5.2% in 2021, resulting in GDP levels slightly above those in 2019. However, this growth projection seems reliant on the opening of economies through a vaccine, which we still await.
Elections in New Zealand and the US dominate the headlines
In New Zealand the election mirrored what was expected in pre-election polls, with a wide victory for Jacinda Ardern’s Labour Party. From the outset, it appears the party’s focus remains on beating COVID-19 and the broader impacts of the pandemic.
Meanwhile, the US election added further turmoil to an already volatile market. Biden has secured the presidency, but the reality was far from the ‘blue wave’ that the polls projected.
Trump has long proclaimed that he will contest the election if he loses, which he has already initiated primarily through targeted lawsuits in key swing states. While these legal matters may be a focus for markets over the coming weeks, the US Constitution states that the president, new or current, must be inaugurated on 20 January 2021.
Until then, the contested election result may cause ongoing turbulence in markets, but the results so far seem to have had a positive effect on share markets in particular. With the Republican Party looking to be in control of the Senate, this is likely to slow the release of stimulus into the economy. Approved fiscal stimulus should be more targeted, resulting in less debt – a positive for US bonds and the US dollar.
Global interest rates and the prospect of a negative OCR
Global interest rates continue to trend lower as economic stimulus is implemented in many of the world’s developed economies. This downward trend is likely to continue into 2021 and interest rates are expected to remain low for some time.
In New Zealand it is a possibility that the Official Cash Rate (OCR) could turn negative in 2021. This is on top of the recently announced Funding for Lending Programme (FLP). The FLP seeks to reduce New Zealand banks’ reliance on offshore funding and deposits in order to lower the overall costs of borrowing. The impact of this will be to bring down both lending rates and those available on term deposits.
The UK is also considering the use of negative interest rates, while the US and Australia are using other monetary policy tools – such as relaxing regulatory capital and liquidity requirements, and direct lending to businesses with more flexible repayment terms.
On the one hand, the reduced cost of borrowing can support and aid economies that are struggling. On the other, the reduction in interest rates hurts investments in cash and bonds. As such, the returns from these two asset classes are expected to be lower in the period ahead. Investors in funds that have a significant weighting to cash and bonds should therefore expect that returns will be lower than previously experienced and, in the case of cash investments, could be negative.
The world is reliant on a COVID-19 vaccine
A return to ‘normal’ appears to be reliant on a vaccine for COVID-19. Indeed, it is hard to see a recovery in some industries until a vaccine is both available and widely administered. At the end of September, there were 321 vaccines in development. The leaders in the race are Pfizer (in partnership with BioNTech), who recently announced that initial trials showed that their vaccine protected more than 90% of people from developing COVID-19 symptoms. They have indicated that deliveries of the vaccine could begin by the end of this year.
That being said, the roll out of a vaccine is not that simple. The companies that successfully develop a vaccine are likely to be faced with production and supply chain issues. For example, Pfizer/BioNTech have said that they expect to be able to produce 1.3 billion doses of the vaccine in a year, but that would leave a significant gap relative to what global demand will be. There may also be concerns regarding the safety of a vaccine that has been developed so quickly – months, if not years ahead, of a ‘typical’ vaccine development schedule. This may lead to some reluctance to have the vaccine administered and therefore a slower-than-expected economic recovery, particularly in some of the most affected sectors – such as travel.
The future is more uncertain now than ever. COVID-19, US election uncertainty and a possible no-deal Brexit leave several possible directions for the markets. Heightened volatility is likely to remain over the coming months, but as a vaccine is developed and political questions become answered, we should find that markets settle. When this may happen is not yet clear. But, until then, long-term investors are well placed to withstand the ups and downs the coming months will bring.
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