LONDON (Reuters) – Investment banks are dedicating models from the 2008 financial crisis to determine the right time to buy back equity markets, which fell 30% from their record highs in February due to the coronvirus crisis.
The Wall Street sign is pictured on the New York Stock Exchange (NYSE) in the Manhattan borough of New York City, New York, the United States, on March 9, 2020. REUTERS / Carlo Allegri
This turning point is not easy to model if the virus is still spreading rapidly across Europe and the United States.
However, the US government’s $ 2 trillion fiscal stimulus, which was driven by unprecedented action by the Federal Reserve and other central banks on Tuesday, triggered one of the sharpest global stock market rallies in decades.
The Cboe Volatility Index, the so-called fear meter on Wall Street, has also fallen from its highs.
For some, there are signals for a reversal.
Experienced investor Bill Ackman told investors in his listed Pershing fund that he had increasingly appreciated stocks and loans and taken hedging that he introduced in early March when the markets first became crater-like.
He said Pershing had “redeployed our capital at companies we love at bargain prices to deal with this crisis.”
Goldman Sachs believed the record rally in the stock markets was led by underweight sectors this week, suggesting that many funds had short positions. Indeed, energy, travel and auto stocks were the biggest gains on Tuesday.
At Morgan Stanley, Andrew Sheets, head of cross-asset strategy, said that in these situations, including 2008, markets often go through long before the crisis actually ends.
A decade of impressive gains followed from the 2008 low, increasing global stock value by more than $ 25 trillion.
“(The market) doesn’t have to see a peak in US cases (Covid), just a confirmation of the path and it must be happy with the path,” said Sheets.
So far, however, it has remained underweight and has only slightly increased equity exposure.
JPMorgan says there is more than one way to measure this, especially given the uniqueness of the crisis that hit the real economy first, followed by the financial markets.
John Normand, head of JPM’s cross-asset strategy, said a model that is now being proposed is the time of re-entry – a quarter before the end of a recession. In his view, the recession caused by the corona virus will be “undoubtedly deep, but possibly also the shortest of all time”.
Normand also said investors could be waiting for “green shoots” or signs of an actual upturn, which is reflected in a low for JPMorgan’s global purchasing manager index.
A third valuation-based model triggers a buy signal when the risk premiums for several asset classes fall on certain thresholds for “low values”.
Norman said the latter two models did not yet signal that it was time to buy.
In particular, the US and European stock valuations, which are based on a 12-month price-earnings ratio, have meanwhile fallen significantly below the historical average, according to refinitive data.
Meanwhile, credit markets are still sending out emergency signals – yields on US junk-rated bonds are currently around 10%, compared to 6% a month ago, which means many companies may find it difficult to service debt.
In Europe, the index of European credit default swaps, ITEXO5Y = MG, which measures the default risk of a basket of companies with a sub-investment grade rating, is outside of its highs, but remains elevated at around 520 basis points and almost doubles at the end of February .
The 30% decline in volatility index (VIX) from recent highs is clearly positive for riskier assets. However, if 2008 is indicative, its decline may not yet signal the bottom of the market. The VIX retreated from its October highs in 2008, but it took the markets another five months to bottom.
The recession in 2008 was long – some economists are expecting global growth to reverse in the third quarter.
However, some warn that markets are only now starting to figure out how strong a possible downturn could be.
“We … have not understood exactly how far this recession will go,” said Andrea Cicione, Head of Strategy at TS Lombard in London. Some of their concerns focus on the potential impact of the second round, such as rising unemployment and cuts in capital spending by businesses.
Currently, the development of the corona virus and its economic impact will play a key role in determining the market path, said Randy Watts, chief investment strategist at William O’Neill + Co.
“In the short term, the market will still remain very volatile until one of three things happens – either the number of deaths and the number of new infections in the US, the culmination, a kind of remedy or vaccine is being developed or until the US economy returns starts to open, ”he said.
Reporting by Thyagaraju Adinarayan, Sujata Rao and Yoruk Bahceli in London. Additional reporting from Medha Singh. Edited by Jane Merriman