What is Coronavirus, why is the market crashing and how will this impact your KiwiSaver account?
Disclaimer: Set out in this blog post is a summary of the current Coronavirus situation. We have done a significant amount of research in developing this blog post, but it is important to remember that the situation is fluid and continues to change. This article reflects the views of kōura staff as at 10 March, based on the research we have done, the situation is likely to change. We are not medical professionals and we do not have a crystal ball to understand how markets will react and what the long term implications of Coronavirus will be on your KiwiSaver balance, though have tried to give a balanced view in this article.
1. What exactly is Coronavirus?
Coronaviruses are a family of diseases that can cause illnesses ranging from the common flu (also known as Influenza) all the way through to more severe diseases such as SARS (Severe Acute Respiratory Syndrome). The current Coronavirus (technically known as COVID-19) is an outbreak that originated in China in December and has since spread around the world. As of 28 February, there had been almost 84,000 cases reported across 53 countries and 2,861 deaths have been attributed to this outbreak.
This version of the coronavirus causes a virus deep in the lungs which can cause severe cases of pneumonia. Like most viruses, antibiotics and hospitalisation tackle the symptoms rather than the underlying virus. People with severe cases are typically admitted to the hospital where they are placed on oxygen respirators to assist their breathing and given antibiotics to help fight pneumonia. In effect, this is a severe version of the common flu that many people catch every winter. The big difference is the mortality rate, COVID-19 is estimated to have a mortality rate of between 1-2% versus a mortality rate from the common flu of 0.5 - 0.1%. We therefore potentially have a disease which will be as prevalent as the common flu but could have a death rate 10 – 20x higher than the common flu.
Research out of China indicates that there have been very few cases of children being infected due to the partial immunity they develop from the common flu they constantly have. However, older people and smokers are likely to advance into severe stages of the illness due to them having weaker lungs. At this stage there is no vaccine for the disease – it typically takes 12 months for a vaccine to be developed and fully tested, so therefore we are unlikely to see a vaccine before the end of the year.
2. Will it keep spreading?
It is impossible to say how far the disease will spread. Whilst infections in China are slowing down, they are starting to accelerate in other parts of the world. These outbreaks are likely to be much harder to control than the initial outbreak in China as it will be much harder to stop people travelling from these regions and impose the restrictions that worked so well in halting the spread in China.
Prime Minister of Italy, Giuseppe Conte on 9th March declared the entire country a "red zone," meaning people should stay home except for work and emergencies. This measure puts nearly 16 million people under quarantine in a country where the number of confirmed cases has surpassed 9600 and 463 deaths have been confirmed. Meanwhile, the number of confirmed U.S. cases of coronavirus has risen to more than 650 on Monday, including 26 deaths. The good news is that no new cases of the virus have been reported in NZ since last week's 5 and we hope that we can continue to contain the situation here on kiwi shores.
The next few weeks will be a critical time to see how far the disease spreads. The worst-case scenario is that the attempts to control the spread like self-imposed quarantines and travel bans become ineffective leading to wide-spread infections. Alternatively, the control measures may take effect and we may start to see reduced infection rates. The improving weather in the Northern Hemisphere will help; as the weather improves the severity of the disease is likely to fall as well.
3. What does this mean for the world economy?
At this stage, it is extremely difficult to categorically say what impact COVID-19 will have on the global economy. The increasing number of people staying at home has already caused significant reductions in tourism and discretionary spending. In China, the disease is also causing reduced manufacturing output as factories have been closed. If schools end up having to close (the most likely containment step in Europe and North America) then this could have a significant economic impact as people will need to stay home and take time off work.
Until early last week, most economists had predicted that the Coronavirus would result in a sharp reduction in output though it would be deferred spending that would be moved for a few weeks rather than a material reduction in outputs for the full year. Given the global spread of the virus, it appears that the impacts are likely to last longer than initially anticipated.
The full scale of the impact will only be known in the coming weeks as the virus proceeds. What we do know is that markets will recover and continue their slow grind upwards, it is just a matter of when. If all goes well, the medium-term economic impacts could be negligible.
4. The impact on the global markets
Markets price companies based on their potential to earn profits in the future. It is likely that company profits will be lower than previous expectations as a result of reduced consumer spending (spenders staying at home) and reduced production (workers staying at home) or disruptions to supply chains (eg. Chinese ports remaining closed). The size of the market fall will be determined by how far markets expect profits to drop in the short/medium term.
The US market fell by 11.5% last week, this is the steepest one week decline in US market history with 3 days where the market fell by over 3%. On 9th March, the New York Stock Exchange went into a trading halt because of maximum fall limits being triggered (a 7% fall) – this is only the third time in history that this rule has been implemented. We also saw oil drop as much as 30% on its open on Monday, the largest fall since the invasion of Iraq in 1991 which is going to have huge flow-on effects to oil-producing economies - this great article explains the how and why of it.
It seems that the equity markets have quickly realised that they have underestimated the risk of the Coronavirus expanding and therefore needed to reverse that position. As a result, global markets closed down c.7% on 9th March, this means that they are now down c.10% in the past month.
The SARS outbreak in 2008 is the closest parallel to what we are seeing here. The S&P 500 fell 13% in the weeks immediately following the outbreak, though recovered with a 21% gain in the 12 months following the fall. In this case, the economic impact was a short and sharp impact that was quickly forgotten. For more information on previous pandemics and their market impacts, we suggest you look at this article here.
As passive investors, we are very happy that we do not need to try and pick the bottom here, it could be a short and sharp correction with a strong rebound, or there could further fall and a longer recover. On a lighter note, an agency 5W surveyed 737 American beer drinkers over the age of 21 last week and found that 38% of beer-drinking Americans would not buy Corona under any circumstances so maybe the impact for them remains to be seen (we hope not as we love our Corona here at kōura).
5. Coronavirus and your KiwiSaver account
Your KiwiSaver money is invested in the global markets, this means that you are an investor. Swings in the market are part and parcel of investing. A well-diversified portfolio (which your kōura portfolio most definitely is) will recover in line with the markets, historically markets have always recovered from these dips.
Just because there has been a reduction in the value of your KiwiSaver balance today, does not necessarily mean that you will have less money when you buy your first home or retire
- If you are a long way away from your objective, kōura will have recommended a growth-orientated portfolio for you, and that portfolio will have time to recover from the lower values you see today
- If you are a short-term investor (close to buying a house or retiring) kōura will have recommended a conservative style portfolio (more income assets) and that should have protected you from most of the downturn. We did this because you may not have sufficient time for your assets to recover in an event such as this.
What is important is that you do not change your investment strategy/fund allocation based on short term market movements. Reducing the risk of your KiwiSaver portfolio right now will mean that you lock in the losses from the recent fall in the markets and you won’t be able to benefit from the recovery when it happens. Even better, if you regularly contribute to your KiwiSaver fund, you will be investing at the lower prices, which will also benefit from the recovery when it happens.