Commentary

Investing around the known unknown of the coronavirus

The World Health Organisation has declared the Wuhan coronavirus outbreak a global emergency.

As the tragic loss of life and the sickening of thousands unfolds, the big concern for financial markets is that the fallout will dent consumption and economic growth in the world's second-largest economy.

Investors have shifted into safe havens, bidding up gold, the United States dollar and the yen as a result.

Meanwhile, equity markets in Asia have corrected. Hong Kong and Taiwan's stock markets are down by over 7 per cent since their mid-January peaks, when fears started mounting worldwide about the possible contagion within and outside China. Singapore's Straits Times Index is down 4 per cent for the same period.

The sell-off halts the relief rally that began in December, sparked by the signing of the US-China phase one trade deal.

This epidemic comes at a precarious time for the global economy. Growth slowed substantially last year, but economic green shoots, loose monetary policy and the clearing of trade uncertainty contributed to upbeat sentiment for this year.

But that optimism is now replaced by worries as China locks down whole cities and other governments unveil border control measures.

So what should investors do in this environment: stay risk-on or turn risk-off?

OPPORTUNITY TO BUY LOW?

Diversification remains key, and so is sticking to your investment plan - which for us means staying overweight global, emerging market and Asia ex-Japan equities.

We see grounds for cautious optimism that the outbreak can be brought under control. In fact, this period of correction may offer an opportunity to buy low.

While the situation around the coronavirus remains fluid, fundamentals do not point to a prolonged global economic downturn. As such, risk assets should stay well supported this year. MS TAN MIN LAN, ASIA-PACIFIC HEAD OF UBS GLOBAL WEALTH MANAGEMENT’S CHIEF INVESTMENT OFFICE

There's no doubt that the epidemic will hurt growth. Airlines are halting flights to and from mainland China, and forceful measures by the Chinese government to contain the outbreak, such as the grounding of transportation systems in hot zones and the Chinese New Year holiday extensions in major economic centres like Shanghai and Suzhou, will take a toll.

And usually vibrant consumption activities around the annual holiday have ground to a near halt. China's movie box office on the first day of the holiday, for instance, collapsed to just 1.8 million yuan (S$355,000) compared with 1.5 billion yuan the previous year. All this points to a significant negative economic shock in the near term.

That said, the experiences of past viral outbreaks suggest that the negative impact on growth and markets typically normalises within a few weeks. Assuming successful containment, we expect a sharp but short-lived economic drag lasting one or, at worst, two quarters for this episode.

While the severe acute respiratory syndrome (Sars) outbreak 17 years ago is not a perfect comparison - infection and mortality rates differ, lockdown of activities is far more draconian this time and China's global economic heft is much greater - it could offer parallels in terms of economic, earnings and market patterns.

During Sars, China's gross domestic product (GDP) growth slowed sharply from over 12 per cent quarter on quarter in the first three months of 2003 to 3.5 per cent in the second quarter, while year-on-year growth dropped by 2 percentage points to 9.1 per cent.

Growth then quickly recovered when the epidemic faded, to over 10 per cent both on the quarter and on the year in the second half of 2003, thanks to pent-up demand and government stimulus. If this pattern proves true again, investors should look for stabilisation in the number of new cases as a potential inflection point for risk assets.

Overall, for this year, China's GDP growth could fall closer to 5.5 per cent and Asia ex-Japan earnings growth could decline by 2 to 3 percentage points to the low teens.

With Asian equity markets now trading below their historical average - at 1.6 times their book value - and at a significant 35 per cent discount to global markets, current share prices offer an opportunity to gain exposure to select markets, sectors and stocks.

STRATEGIES TO WEATHER STORM

Investors can take various actions to protect and grow their portfolios.

First, avoid vulnerable companies in Asia. These include companies at risk of sharp, near-term earnings cuts and which have less supportive valuations, such as airlines, casinos, hotels other travel segments, and certain consumer-related industries.

Second, invest in "stay-at-home" stocks. Companies exposed to online consumption, such as gaming, e-commerce and food delivery, stand to benefit from people staying at home instead of travelling.

Third, buy high dividends. Stocks with strong cash flows and high dividend yields should be defensive in the current environment and provide good diversification benefits for investors with strong cyclical exposure. The sharp decline in bond yields this year - the US 10-year government bond now yields just 1.57 per cent - also increases the appeal of high-dividend stocks. Also, sectors like telecoms, consumer staples and utilities should be resilient, while healthcare may get a partial boost.

Fourth, take advantage of the volatility and gain defensive exposure by writing puts on equity indices. Structured solutions that can enhance yield while offering a degree of capital protection can also be considered.

A basket of high-yielding currencies - the Indian rupee, Indonesia rupiah and Brazilian real - is another yield play which should continue to attract inflows in a low-yield environment. The Thai baht should be avoided, as it is vulnerable to a drop in Chinese visitors; tourism makes up about 11 per cent of Thailand's GDP, and about 25 per cent to 30 per cent of its tourists come from mainland China.

While the situation around the coronavirus remains fluid, fundamentals do not point to a prolonged global economic downturn. As such, risk assets should stay well supported this year. Importantly, the recent market volatility is once again a reminder that diversification across geographic regions and asset classes remains key to wealth creation and preservation. European markets have been resilient even as Asia corrected.

As stocks have fallen, bonds have rallied. It hasn't been the most auspicious start to the Year of the Rat, but savvy investment moves and smart planning can make it a prosperous one.

• The writer is Asia-Pacific head of UBS Global Wealth Management's chief investment office.

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