Amid the bounce-back, beware of uncertainty – the greatest enemy of markets

It would seem that global equity markets have turned more hopeful. After establishing recent lows, the S&P 500® Index hit a low of 2,191 on March 23, the STOXX® Europe 600 Index hit a low of 276 on March 17, and the MSCI Emerging Markets Index sank to 758 points on March 23. The S&P/TSX Composite Index hit a low of 11,173 on March 23.

As of April 8, that would mean that the following in terms of market recovery from those lows:

  • STOXX 600: Up 17%
  • MSCI EM: Up 16%
  • S&P 500: Up 22%
  • S&P/TSX Composite Index: Up 22% (to close on April 8)

Put another way, at this point markets have clawed back less than half of their losses from their lows. However, it’s important to note that when you fall 36%, you need to rally even more—56%—to get back to where you started.1 Market volatility, for which the CBOE Volatility Index (VIX) is a good proxy, has fallen from a high of 84.57 on March 18 to 44.43 on April 8.

Signs of (relative) calm in credit markets

In the sovereign bond market, things have settled down as well. While rates have fluctuated, as they often do, the yields of both Canadian government bonds and U.S. Treasuries are well off their lows logged during the height of market concern. In credit markets, we have seen liquidity improve from the highly volatile days of the recent past, but it is still a fair bit away for normal. Credit spreads have narrowed since their widest point on March 23, but still are significantly wider than normal, particularly in the high yield space.

Volatility continues across energy markets

In the energy market, we have seen West Texas Intermediate crude move off its low of US$19.27/barrel on March 30 to its current US$24.98 level, a 29.6% increase. That still leaves U.S. oil a long, long way from its 52-week high of US$66.60 nearly one year ago. Meanwhile, Western Canadian Select (WCS), Canada’s benchmark crude, continues to toil near its all-time lows trading around only US$4/barrel.

In the background, there has been tremendous demand destruction and there continues to be a glut of supply—so expect continued volatility in this sector for a while. In Canada, the long-standing issues around pipelines and distribution continue to hurt prices.

Market outlook

All told, the numbers above paint a modestly brighter picture for most markets, especially in relation to their late-March lows. That said, it would be naïve to expect that these trends will continue in an unbroken pattern. Put bluntly, we expect economic data to continue to be globally horrific in April.

In addition, the path of the coronavirus is still ultimately unknown. Recent trends indicate that social distancing measures in other parts of the world are replicating the curve flattening trend we have seen in South Korea and China. But uncertainty is still great and ultimately, uncertainty is the greatest enemy of markets. Even if you, like us, expect the economy to rebound from this difficult time and markets to respond positively over time, you need to be braced for the likely volatility that will be a constant companion over the next several months.

The bottom line

The situation has improved for many investors over the last two weeks. In particular, those investors that maintained their investment discipline and rebalanced as the equity market fell are feeling better about things. Ultimately, we expect that staying disciplined will continue to pay off. However, investors’ ability to maintain this discipline will likely be tested more than once as we navigate through these unprecedented times. Hopefully, forewarned is forearmed.

1 This is due to mathematical principles of percentages. In this case, a 36% loss of $100 is $64. A 56% gain—or an additional $36—is needed to go from $64 to $100.