This article was originally published on ETFTrends.com.
By Seema Shah, Chief Strategist, Principal Global Investors
Consider a crowded street fair, commonplace to so many of us just 6 months ago. Today, does the thought of visiting the food stalls and shops fill you with fear and anxiety? If your answer is yes, it is possible that you also view the recent market rally with scepticism. By contrast, if the idea of visiting an open market makes you feel hopeful about a return to normality, perhaps you believe this equity rally has room to run.
In a similar way that older generations feel generally more anxious about coronavirus than younger generations because they are more vulnerable, people living in cities hard hit by COVID-19 feel more anxious about the virus than those that live in areas where rates are lower. Even further, industries which tend to be centred in hard hit areas may also feel more anxious about COVID-19.
New York City, where COVID-19 related deaths have eclipsed all other cities in the world, employs and houses thousands of financial professionals: bankers, institutional investors, market pundits, economists and strategists. Similarly, while London, another international financial centre, hasn’t suffered as many deaths as NYC, it too has been hit hard.
So what you say?
This economic crisis, like no other, is being determined by our own behavioural responses to COVID-19, and the success or failure of the current global economic reopening, particularly over the next few months, is critical for asset valuation. If the reopening succeeds, then current asset valuations start to look more justified. If it doesn’t succeed, fears of a desperately slow recovery will be realised, and the investors questioning current asset valuations may be proved correct.
For a strong recovery to take hold, households need to return to their normal behaviour as quick as possible. Yet for places such as New York City and London, where normal behaviour has historically included being in situations where appropriate social distancing is not remotely feasible, even as reopening commences, the thousands of investors who live in those two cities – may still be some way off.
Yes, I know—London and New York are not the centre of the world and what happens in those two cities does not speak for the global economy nor, for that matter, the U.S. or the U.K. However, with companies cutting forward earnings guidance for 2020, backward looking traditional economic data struggling to make sense of weekly improvements in sentiment, and, high frequency indicators still unfamiliar, there is an unusual lack of visibility on the path forward.
In such an environment, we rely on our own experiences and emotions to help make sense of our surroundings and the market. Investors from London and New York, both financial hubs dealing with a more dire coronavirus landscape, may just be bringing in their own individual downward bias into market commentary.
Optimism bias drove markets in January
It is this reliance on our own experience that perhaps explains why it took so long for the COVID-19 reality to dawn on Western investors. Consider that, back in January and the first half of February when the virus was still confined to Asia, U.S. and European markets remained astonishingly complacent about the virus, struggling to comprehend that what was hitting Asia could ever reach their shores. During this time, lest I remind you, U.S. and European stock markets reached a new record high.
Traders only began to react once the epidemic reached their own doorstep. Soon after lockdowns were announced in NYC and London, investors quickly adjusted their perspectives of COVID-19 and markets followed. They quickly anticipated what non-essential activities would be paused: Cancelled holiday plans? Reduce exposure to airlines, hotels and travel companies. Stuck inside, unable to shop, visit or entertain? Investors flocked to tech stocks that were likely to be beneficiaries of online ordering, communications and media.
Understandably, when people believe they are still at high risk from COVID-19 and continue to be restricted from leaving their homes to shop and socialise, they tend to be more conservative—and this has, and continues to be, extended to their investment habits.
Certainly, the most recent Bank of America Merrill Lynch fund manager survey painted these investment professionals as a rather cautious subset of the population. It showed that only 10% of respondents expect a V-shaped recovery, while 75% expect a U or even W shaped recovery.
Londoners’ pro-Europe bias drove incorrect 2016 referendum result predictions
Of course, COVID-19 is not the first time that investors and financial markets have got it wrong. Recall the U.K. referendum in 2016 when betting odds and financial markets overwhelmingly predicted a “Remain” result. Betting odds are often assumed to convey the “expectations of the majority”, while financial markets pride themselves as the best forecasters in town, but both suffered from biases leading them to be horribly wrong.
Prior to the vote, much of the referendum wagering action was coming out of London, a city that voted resoundingly to remain in the EU. Londoners overwhelmingly believed the rest of the country felt as pro-Europe as they did.
With the U.K.’s large domestic and international investment community based almost exclusively in London, investors also suffered from their own biases. Then, just as now, investors were working with the same limited and distorted information set: what was happening outside their windows.
Maintaining a long-term investment outlook & avoiding emotional biases
Perhaps then, because a large proportion of the investment community is based in cities that have been significantly impacted by COVID-19, market forecasts have a downward bias. It should be no wonder then that investor sentiment has remained on the bearish side of the spectrum even as equity markets rapidly approach their previous record highs. In fact, even the market rally has been driven by the more defensive sectors of the economy: technology, healthcare and utilities.
As we have seen time and time again, short-term market events and the emotions that they can trigger should not drive investment choices. As market analysts, we need to look beyond our own home cities and acknowledge the biases that are creeping into our own market analysis. We all know that maintaining a proper focus on long-term investment strategies is the most sensible way of investing through this crisis.
It also tells us that, as NYC and London reopen and, assuming there isn’t a resurgence in infection, glimmers of optimism may emerge, pushing investor sentiment to enjoy its own resurgence. Cautiously optimistic is as far as I can bring myself.
Unless otherwise noted, the information in this document has been derived from sources believed to be accurate as of June 2020. Information derived from sources other than Principal Global Investors or its affiliates is believed to be reliable; however, we do not independently verify or guarantee its accuracy or validity. This material contains general information only and does not take account of any investor’s investment objectives or financial situation and should not be construed as specific investment advice, recommendation or be relied on in any way as a guarantee, promise, forecast or prediction of future events regarding an investment or the markets in general. The opinions and predictions expressed are subject to change without prior notice. Any reference to a specific investment or security does not constitute a recommendation to buy, sell, or hold such investment or security, nor an indication that Principal Global Investors or its affiliates has recommended a specific security for any client account.
Subject to any contrary provisions of applicable law, Principal Global Investors and its affiliates, and their officers, directors, employees, agents, disclaim any express or implied warranty of reliability or accuracy and any responsibility arising in any way (including by reason of negligence) for errors or omissions in this document or in the information or data provided in this document.
Past performance is no guarantee of future results and should not be relied upon to make an investment decision. Investing involves risk, including possible loss of principal.
Links contained in some blog posts may take you to third-party sites and Principal Global Investors makes no guarantees to the accuracy of the information provided. Principal Global Investors does not endorse, authorize, or sponsor any third-party content
This material may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts or returns. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the viewer.
This material is not intended for distribution to or use by any person or entity in any jurisdiction or country where such distribution or use would be contrary to local law or regulation.
Insurance products and plan administrative services provided through Principal Life Insurance Co. Principal Funds, Inc. is distributed by Principal Funds Distributor, Inc. Securities offered through Principal Securities, Inc., 800-547-7754, Member SIPC and/or independent broker/dealers. Principal Life, Principal Funds Distributor, Inc. and Principal Securities are members of the Principal Financial Group®, Des Moines, IA 50392.
POPULAR ARTICLES AND RESOURCES FROM ETFTRENDS.COM
- SPY ETF Quote
- VOO ETF Quote
- QQQ ETF Quote
- VTI ETF Quote
- JNUG ETF Quote
- Top 34 Gold ETFs
- Top 34 Oil ETFs
- Top 57 Financials ETFs
- Women in ETFs to Host ‘Career Transitions in a Virtual Environment’ Zoom Panel
- Apple Stock Closes At Record High, Driving Tech ETFs To Gains
- S&P 500 Targets Green For The Year With Fed Meeting Coming
- Is the Airline ETF Starting to Look Pricey?
- Gold ETFs Stumble After Positive Employment Data