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Liquidity vs the virus

“There are few certainties when it comes to investing; just when many parts of the world looked to have got to grips with the coronavirus pandemic, many jurisdictions re-imposed lockdowns to contain a surge in new cases – a standing reminder that virus infections could ebb and flow for up to five years.

“Still, there are some things investors can be certain of in 2020. Corporate profits will fall precipitously, and central banks will move mountains to support the economy. The task is to determine which of these will have a stronger bearing on financial markets.

“Corporate earnings prospects are clearly a concern. The consensus is that profits will decline by about 20 per cent this year following the deepest recession in more than a century. We are less optimistic. Globally, earnings could drop 30 to 40 per cent year-on-year.

“But that does not mean equity and corporate bond markets are due a sharp fall. Central banks are committed to containing the damage. We calculate that the US Federal Reserve will inject another USD1.3 trillion of stimulus this year while the ECB will add an extra EUR1.1 trillion.

“Broadly speaking, this suggests the decline in earnings per share will be offset by a central bank-inspired hike in price-earnings multiples.

“Crucially, however, stocks that trade on cheaper multiples, such as European equities, should see stimulus hold sway, which is why we have raised our exposure to European stocks to overweight. We retain a neutral stance on most other stock markets.

“There remain plenty of risks. Growth in Covid cases in parts of the US and flare-ups in those regions where the pandemic appeared to have been beaten down raise the worrying prospect of a second wave.

“At the same time, recent polls flag up the possibility of a Democrat clean sweep at November’s elections: the presidency and control of the Senate. Fears are that the Democrats would restrain costs and prices, particularly among pharmaceuticals.

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