Coronavirus - What we know: Our views and strategy

  • The spread of the Novel Coronavirus (2019-nCoV) has been both faster and wider than initially expected. Over the past few weeks, the number of confirmed infections in the mainland has grown very rapidly and already exceeds the total seen in the 2003 Severe Acute Respiratory Syndrome (SARS) outbreak.

 

  • With a longer incubation period and potentially easier and asymptomatic transmission of 2019-nCoV, coupled with the huge number of Chinese on the move for Lunar New Year holiday, disease control is likely to remain challenging and the risk of an escalation in the situation remains high.

 

  • Worryingly, 2019-nCoV seems to transmit more easily between humans than SARS. The new virus is, however, seemingly less virulent than SARS, which killed 10% of those infected. So far 2019-nCoV has caused severe respiratory distress in about a quarter of the confirmed cases, but with an estimated mortality rate of 2-3% for those infected.

 

  • The monitoring and handling by global organisations like the WHO, as well as the Chinese authorities, has been much better in comparison to SARS and MERS. Chinese health authorities have for example shared the full genome of the 2019-nCoV, and tests are available. This bears consideration and could help to reduce the severity of the situation and/or length of time to bring the situation under control

 

  •  Given we are still in the early stages of the outbreak, it is hard to predict the full impact on economic activity, and hence equity markets. So far, markets have been reacting negatively to the outbreak, with equities and oil prices experiencing a bout of weakness while safe haven assets like gold have been bid higher.

 

Our views and strategy

 

  •  Our base case is for a short, sharp hit to consumption and activity in China in the next few months on the back of the virus outbreak. Sectors likely to be most affected are retail, tourism, lodging, catering, and offline entertainment which are already seeing a sharp drop in consumer demand. Outside China, those countries most reliant on PRC tourist visitation and spending are likely to see the greatest impact – notably HK and Thailand in the region.

 

  •  While China’s 1Q GDP growth will clearly be impacted, we would expect to see further stimulus measures from the government to help cushion downside in the economy, including additional fiscal and monetary support - although the impact will only feed through with a lag. At the same time, increased online consumption – which represents a much larger part of the economy today than during SARS - could help to mitigate the reduction in offline activity in some segments.

 

  •  In line with the experience during SARS, we would expect to see a rapid rebound in activity and confidence when the number of daily infections starts to peak and concerns around further spreading or mutation of the virus recedes. Given this base case, we view the event today as a cyclical shock to the economy and markets rather than anything more structural in nature. As such, the impact on longer term fundamentals and fair values for the stocks that we hold should be limited even if the Q1 profits are hit hard.

 

  •  Share prices for the most obviously vulnerable companies have already corrected (consumption names, tourism-related plays, Macau gaming etc.) as the market has moved quickly to price in a weaker earnings outlook for the first half of the year and we have seen some profit taking after the strong gains seen in prior weeks for many China stocks.

 

  •  We have not adjusted our portfolios materially in recent days given the continued confidence in the long term attractions of our holdings, and their weaker share prices. We would look to add to our favoured names should the market correct further and we consider individual names oversold.

 

  •  We will continue to monitor the situation closely and remain cognisant of any potential impact that new developments may have on our portfolios