A week dominated by headlines of a spreading respiratory virus has had investors recalling pandemics past, from SARS in 2003 to the Ebola scare six years ago. While the “Wuhan” virus, or known scientifically as “nCoV,” is still in its infancy, it is closely tracking both the infection and, unfortunately, death rates of the SARS virus.
However, the question everyone wants an answer to is: “what does the virus mean for the markets?”
Will it derail the longest bull market in U.S. history? Or, is it nothing to worry about?
If you read the mainstream media, the answer seems to be the latter. To wit:
“However, gauged by the market’s performance during the onset of other infectious diseases, including SARS, or severe acute respiratory syndrome, Ebola and avian flu, Wall Street investors may have little to fear that this disease will sicken a U.S. stock market that finished 2019 with the best annual return in years and has kicked off 2020 at or near all-time highs.” – MarketWatch
With the stock market perched near all-time highs, it is understandable investors are quick to dismiss the potential ramifications of the virus very quickly. There is also plenty of anecdotal evidence to support the bullish claims as well. The chart below is the S&P 500 index versus its exponential growth trend with a history of the more important viral outbreaks notated.
Throughout history, markets have always seemed to bounce back from deadly viral outbreaks. However, long-term charts tend to obfuscate the damage done to investors who have a much shorter investment time horizon.
Currently, the more prominent comparison is how the market performed following the “SARS” outbreak in 2003, as it also was a member of the “corona virus” family.
Clearly, if you just remained invested, there was a quick recovery from the market impact, and the bull market resumed.
At least it seems that way.
While the chart is not intentionally deceiving, it hides a very important fact about the market decline and the potential impact of the SARS virus. Let’s expand the time frame of the chart to get a better understanding.
Following a nearly 50% decline in asset prices, a mean-reversion in valuations, and an economic recession ending, the impact of the SARS virus was negligible given the bulk of the “risk” was already removed from asset prices and economic growth.
Currently, asset prices are near historic highs along with investor sentiment and overall market optimism. The chart below is our composite “fear/greed” gauge, which is comprised of professional and retail asset allocations to equities. (Importantly, this is NOT a measure of how investors “feel” about the market, it is how they are allocated to it.) [ … ]