Mark Lister, 23 March 2020

It is now abundantly clear to everyone that a recession is upon us for the first time in more than a decade. The only questions are just how severe it is, and probably more importantly, how long it lasts.

As is almost always the case, this has led to a ‘bear market’ in equities, with most sharemarkets around the world having fallen 20 to 30 per cent from the February highs.

It is impossible to gauge where things go from here. It begins with the health aspect of the crisis, and how long it is before we see the number of new cases peak and begin to taper off. Next comes the economic impact, which will be significant because of just how disruptive measures to contain the spread of the virus have been.

Finally, there is the financial market impact. Share prices have already fallen heavily and are now pricing in a recession. However, with the severity and length of the recession still unclear, it is difficult to ascertain whether share prices have fallen enough, or if there is more downside to come.

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Personally, I think there could be a bit more downside to go before some stability emerges. Long-term opportunities are undoubtedly emerging but given the uncertainty surrounding the outlook, investors should refrain from jumping in boots and all.

Shares are much cheaper than they were four weeks ago, but don’t forget about the massive run that took place in the 12-18 months before that. They were probably somewhat overheated in the first place, which means the declines we’ve seen over the last month have come from elevated levels, rather than from ‘fair value’.

We should also remember that share prices often overreact on both the upside and the downside. When the going is good, markets are overly enthusiastic and prices go up more than they should. Similarly, when investors are in the depths of pessimism, share prices always undershoot and end up far lower than they deserve too.

Oaktree Capital’s Howard Marks put it best a couple of weeks ago. He noted that many people were asking him "whether this is the time to buy." He responded that his answer was more nuanced, and that it was "probably a time to buy."

That’s the way long-term investors should be approaching the period ahead. There are some great businesses getting unfairly sold off in the maelstrom, so yes, we should take advantage of that and pick up a few bargains.

Just don’t go overboard, time is on your side. Things could still go lower from here, so even better opportunities could present themselves during the coming months. Stick to your plan, remain disciplined and buy in instalments to take market timing risk out of the equation.

Capital raisings are assured from some companies, just as they were when many were looking to shore up balance sheets during the GFC. Some could be conducted well below current prices, so it’ll pay to keep some dry powder on hand to participate in those.

We might also see some dividend cuts, as some companies react to declines in earnings. This won’t be the case across the board, so at a portfolio level any fall in dividend income should be modest. However, it’s another reason to sit on a little more cash usual.

Finally, don’t get too caught up in the doom and gloom. As painful and disruptive as it might feel at present, the world will get through this and life will go on.

On that note, here are five things that I believe put New Zealand (and New Zealand investors) in much better shape than we could be.

The currency is doing its job.

Investors have scrambled to the safety of the US dollar in recent days, and this saw the NZ dollar fall to under US$0.55 last week. The NZ dollar is down 8.0 per cent this year on a trade weighted basis (which means against a basket of other currencies), while it has fallen 15.7 per cent against the US dollar. This is a very important shock absorber for us, and it has just as much impact as interest rate cuts, particularly for the export sector. It also means local investors who have heeded our advice to ensure they are globally diversified will have seen some benefit. While the S&P 500 in the US has fallen 28.7 per cent this year, when the currency is accounted for the decline is a much more modest 15.7 per cent.

Our sharemarket is holding up better than most.

The NZX 50 is 23.4 per cent down from its peak, a solid performance compared to many others (for example, US and Australian shares are down 31.9 and 32.1 per cent from their record highs). In addition, the NZX 50 is only 2.5% lower than 12 months ago. One reason for this outperformance is the lack of higher-risk sectors on our market, most notably energy which has been the weakest performing sector in Australia and the US by a significant margin. Our market is dominated by healthcare, property, utilities and infrastructure businesses, which are all more defensive in a downturn. If it wasn’t been for the uncertainty over the future of Tiwai Point, the NZX 50 would likely have been even more resilient. Investors that have focused on sectors like consumer staples, healthcare and technology in Australia and US (three sectors we have strongly favoured) will have fared much better than average, with these having held up much better than average.

Prices for our biggest export commodity, dairy, have remained resilient.

Dairy prices slipped further at last week’s auction, although not nearly as much as people had been expecting. The headline global dairy trade (GDT) index is now 8.1 per cent lower than where it began the year and 13.0 per cent below where it was at this point in 2019. This is a commendable performance in the context of what we are seeing globally, and a major bright spot for New Zealand economy. Dairy commodities are priced in US dollars, so the 8.1 per cent fall this year has been more than offset by the 15.7 per cent decline in the NZ dollar against the greenback. Drought conditions are still troublesome in places, but at least the pricing backdrop should see the Fonterra payout safe this season (at the highest level in six years). In addition, dairy commodities appear to be relatively unscathed by logistical delays and seem to be getting through to end markets with much more ease than other products. While our tourism sector is facing extreme challenges, at least our other major export is looking more solidly placed.

China looks to be coming back online, slowly but steadily.

The immediate future is looking bleak for Europe and the US, with efforts to contain the virus outbreak coming at the expense of normal life, economic activity and jobs. However, anecdotal evidence, feedback from companies doing business in the region and high frequency indicators all suggest China is getting back to normal. Depending on who you ask or which of these you look at, it appears that capacity has returned to the tune of 50 to 80 per cent. This is a positive development for everyone, given China is the world’s second largest economy. It’s even better news for New Zealand, with China our biggest trading partner by a reasonable margin.

Our Government has a strong balance sheet, and that gives us options.

Last, but certainly not least, our Government has a very strong balance sheet. We have enjoyed a string of prudent, sensible financial custodians from both National and Labour. Sir Michael Cullen left the books in very good shape for the incoming National Government in 2008, Sir Bill English did the same for the current regime, and to date Grant Robertson has proved himself to be equally measured. This has afforded us the option of dipping into the war chest to provide the support that is now required, just as we did in the wake of the GFC and Canterbury earthquakes a little more than a decade ago. Government debt levels will increase substantially over the coming year or two as a result of this, but our very strong starting position leaves us in a much better position than many other countries to deploy this stimulus without overstretching ourselves.


This article was also published in the NZ Herald on 23 March 2020 under the title 'Coronavirus: Five bright spots for New Zealand'.