The near-term news is likely to get uglier, but an increased collective effort globally is expected to lead to containment of the coronavirus outbreak sometime over the next nine months.
Morningstar’s LORRAINE TAN, director of equity research, and JOHANNES FAUL, director of equities, use a historical analysis of previous pandemics to arrive at potential outcomes for global economic growth in 2020.
Q1. What will be the immediate impact?
We expect the near-term impact to be savage, shaving 2 percentage points off global GDP growth. However, we anticipate a vaccine will be ready to be deployed by mid- to late 2021, setting the stage for a return to normality.
We expect a quick recovery of the global economy in 2021. The fast and furious monetary and fiscal interventions announced by central banks and governments globally should provide enormous tailwinds for the world economy to grow above trend and undo most of the damage by 2024.
Q2. Will there be a recession?
Global stock exchanges are retreating as government policies to slow the spread of the coronavirus are infringing on economic activity. Fears of a global recession have triggered reserve banks and governments to respond with monetary easing and fiscal stimulus.
Many leading economists are concerned that the synchronized slowdown in global trade will lead to recessions in various markets. We don’t disagree. Some economies are likely to slip into a few quarters of negative growth. If a country is able to contain the coronavirus outbreak to four months, it’s possible to avoid a recession, but given the global pandemic spread, there’s a good chance a recession will occur. While the overall global growth rate is slowing, we still anticipate 2020 global GDP growth to be positive and increase by 1.3 percentage points.
In its January 2020 update to its World Economic Outlook, the International Monetary Fund estimated world GDP growth at 2.9% in 2019 and forecast a global economic growth rate of 3.3% for 2020. There was no mention of risks to China’s economy from the coronavirus in the IMF’s update. Therefore, we use this pre-COVID-19 growth forecast as our baseline of an undisturbed state of the global economy.
The intensive countermeasures taken by the Chinese government have hit economic activity hard in the first quarter. We lowered our 2020 China real GDP growth forecast by 250 basis points, to 2.2%, some 100 basis points ahead of the average global decline.
Q3. What is the long-term impact?
Humankind is looking down the barrel of a global health crisis. For most, 2020 is shaping up as a year best forgotten from a personal health as well as a financial perspective, at least for now. We anticipate the coronavirus impact to be taxing on global GDP growth and company profits in 2020.
However…
- We Do Not expect the world to come to an end.
- We Do Not envisage long-lasting effects.
- We expect a strong rebound.
On what are we basing those statements?
- A historical assessment of previous pandemics.
- The likelihood of a treatment and subsequently a vaccination becoming available.
- Monetary easing and fiscal stimulus. Central banks and politicians around the world have learned from the global financial crisis and reacted quickly.
These tailwinds, together with new infections abating, will underpin global economic growth above trend in 2021-23 before returning to trend growth from 2024.
In China, employees are returning to work, to their offices, to the factories. It's been a couple of months. It will take some time to revamp everything. We've just ground to an abrupt halt. But if you think about the capabilities, the capacity of the economy itself, that hasn't been touched by the coronavirus. It hasn't destroyed any machinery or such in that sense.
Some sectors and industries are hit harder than others, supermarkets versus airlines, for instance. But we think that it will be short term, demand will bounce back.
There will be a severe near-term impact on GDP, but longer term there's going to be strong bounce back. Long term, in terms of total global output, we think we're only going to be a bit sliver lower in 2024 than we would have been without corona, only by 0.3%.
Q4. Are we in buying territory?
The market’s view seems to differ from ours. The steep discounts to our fair value estimates in some sectors suggest the market is extrapolating the current weakness to persist much longer. This opens a raft of opportunities for investors willing to cut through the noise and instead, in a disciplined manner, assess the extent to which the pessimism regarding long-term corporate earnings is warranted.
Collectively, we find more opportunities to buy than sell shares at current levels. Because this event presents a sharp short-term economic fallout for many companies, we think this crisis will certainly favour companies with economic moats and financial strength. We think there are a number of moaty names that investors should consider adding to their portfolios as well as heavily sold-down stocks that could see a good post-virus bounce. We can’t begin to suggest when equity markets may bottom out, but we like where we see good value versus risk.
As of January 17, 2020, we estimated the market fair value of Morningstar’s global coverage universe was overvalued by 7%, with a market fair value of 1.07. Following the significant global market downturn, as of March 19, we estimate the global market fair value to be 0.70, or 30% undervalued.
Opportunities abound, offering investors material margins of safety. Three fourths of our global coverage is rated 4 or 5 stars. Besides the absolute price/fair value ratio, our uncertainty ratings are the other determining factor of our star ratings. All else equal, a stock with a higher uncertainty requires a higher margin of safety to switch between star ratings. The 40% of our global equities coverage that are 5-star-rated present the most appealing investments on an uncertainty-adjusted basis.
About 7% of our global coverage still screens as overvalued, despite the recent sharp stock market declines, but only 2% are 1-star-rated. We rate 17% of companies covered by Morningstar at 3 stars; these we expect to yield their cost of capital to shareholders but don’t offer a significant margin of safety.
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