24 July 2020
GAM Investments’ Niall Gallagher says there is evidence an economic rebound is occurring, but much depends on whether or not further lockdowns occur.
The evidence across a wide range of micro indicators is that economic activity is rebounding faster than many would have imagined two months ago. The key issue is whether this recovery represents ‘pent up’ demand from a lack of spending during lockdown, or something more sustainable. We think the answer to this depends on whether there is a serious second wave, or not, and how policymakers and consumers react to it. In the absence of a serious second wave and further generalised lockdowns we think the recovery is far more sustainable.
Evidence began to emerge from China, South Korea and Japan in mid-April that many areas of domestic consumption – in both goods and services – were beginning to inflect sharply to the upside, with the same true in industrial sectors. This inflection in growth has continued through May and June. Multiple data sets on credit card usage from Bank of America, Visa and MasterCard show that US spending in aggregate has returned to pre-Covid levels with those states that left lockdown first furthest along the path of recovery and into growth. The same is true to a large extent in Europe. It is important to remember that over 50% of the revenue from European equity markets is derived from outside of Europe.
Are we entering a ‘returning to growth’ phase? Unequivocally yes, in our view. One of the key differences between this crisis and previous crises has been the role of fiscal policy and in particular fiscal transfers / furlough. The paying of worker wages by governments has prevented mass layoffs and unemployment, and replaced income that consumers would otherwise have lost. The consequence of large fiscal transfers, combined with consumers being unable to spend the money due to lockdown, has been a huge build up in consumer savings and cash in bank accounts. In many cases, this was by design but the result is that consumers are ‘flush with cash’ and provided they have the confidence to spend their excess cash balances / windfalls the economic recovery should sustain itself and fiscal holes will (partly) repair. Again, the key to such consumer confidence is the avoidance of further generalised lockdowns pummelling economies thereby providing consumers with the willingness to spend without worrying about losing their jobs and livelihoods.
Structural changes have been accelerated by the crisis, including the migration of spend from offline to online; the migration of cash to electronic payments; the spur to digitisation employees working from home; the growth in the Asian middle class; and the increased focus of higher fiscal spending on ‘greening the economy’. We believe all of these structural trends will continue and will very likely have been accelerated by the recent crisis.
In addition, we believe there is recovery potential for other areas of the market that have been hit hard during the crisis due to falling / suspended demand; this is not a siren call to ‘value’ as we believe value is in many cases lazy shorthand for ‘structurally challenged’, but for those areas of activity that would see moderate growth. Sectors where we expect to see a recovery in demand should the economic recovery prove sustained include autos, construction & building materials and certain areas of industrials.
An area where we remain generally cautious is travel and travel-related sectors such as tourism; this may also knock on to the weaker areas, and certain aspects of luxury. We expect to see a gradual recovery in short haul, leisure-focused travel but believe it will be largely intra-region and do not expect to see a recovery in long haul travel for some time as consumers and businesses stay close to home. This will clearly impact long haul aviation but we also expect to see impacts on travel retail; stronger luxury companies with a strong China presence could benefit from repatriated spend but weaker brands may suffer from the lack of international, long haul tourist travel.
Overall, we remain optimistic on the prospects for European equities. However, much depends on whether or not we will have further lockdowns.
Source: GAM unless otherwise stated. The information in this document is given for information purposes only and does not qualify as investment advice. Opinions and assessments contained in this document may change and reflect the point of view of the manager in the current economic environment. No liability shall be accepted for the accuracy and completeness of the information. Past performance is no indicator for the current or future development. The mentioned financial instruments are provided for illustrative purposes only and shall not be considered as a direct offering, investment recommendation or investment advice. Reference to a security is not a recommendation to buy or sell that security. July 2020