History is littered with examples of large-scale crises ushering in new governmental, economic and social structures. In very recent history, the Global Financial Crisis led to an era of low interest rates and growth, and repeated central bank intervention. Now we think the Covid-19 crisis has the potential to spur its own set of changes.
How the crisis unfolds largely depends on the trajectory of the virus, the strategies used to exit from lockdowns, and how policymakers respond. As a result, we see three broad economic scenarios developing. The base case, to which we ascribe a 60 per cent probability, is a U-shaped recovery: this entails social distancing for the rest of the year and lockdown restrictions gradually being lifted throughout the summer. Policymakers will provide further support, both on the monetary and fiscal side, but given the scale of the challenges including falling inflation, high unemployment and a deep recession, this could lead to lasting changes in the economy creating a ‘New Economic Order’.
The New Economic Order will be a world of increased government intervention displacing the free-market policies pursued since the 1980s. Fiscal activism will bear more of the burden and work in conjunction with monetary policy. Corporate governance and sustainability will become widely adopted concepts after proving their worth during the crisis. One area of continuity will be Asia’s enduring role in driving global growth.
Investors will have to reconcile themselves with an environment of continued low and negative interest rates, debt overhang, unconventional monetary policy tools such as yield curve control, and fiscal spending on a scale we have never seen before. But these challenges create market dislocations that investors can exploit.
We see emerging opportunities from dislocation from new forms of globalisation including building resilience around supply chains (especially where their importance veers into national security), regional disparities in a return to ‘normal’ after the virus, and differences in demographic profiles. The virus is accelerating the move to online consumption and the best companies are adjusting. Valuation disparities have unlocked rare opportunities to buy quality companies. In fixed income, continued low rates and central bank corporate bond purchase programmes are a boon to risk assets. With ratings in flux, we see attractive opportunities among some fallen angels as well as pitfalls to avoid as the credit cycle plays out.
For investors, our previous macro assumptions must undergo a major update and finding flexible ways to navigate these changes will be crucial to generating robust, risk-adjusted returns over the longer term.