The coronavirus outbreak was an unforeseen event and China has responded with several substantial measures to curtail the contagion.
We are likely to see disappointing Chinese economic data in the first quarter in this environment, and, consumption will be the worst impacted, in particular. The team is witnessing, first-hand, a notable slowdown in online consumption in China, as a combination of CNY holidays as well as fear of contagion has significantly slowed down the delivery network to a near standstill. The team is also observing a focused attempt from online gaming, streaming and education providers to attract consumer attention to the services they offer in the safety of the consumer’s home. Against this backdrop, overall corporate activity may experience weakness too. The pace of infrastructure activity will depend on how projects pick up in late February.
How market reacts to these developments would depend both on overall risk sentiment and market liquidity. The latter is not a major concern for now. It would not be surprising to see a selloff in Chinese stocks in the near-term as both corporate and investors have little visibility on earning impact from this event. However, China is still in a mid-reflationary stage of its economy. If we see further weakness of activity pick-up post Chinese New Year, the government is likely to respond with more liquidity easing and fiscal stimulus.
The outbreak of this virus cannot but weigh on China consumption stocks in the near-term, both in terms of sentiment and earnings. The fact it has struck over Chinese New Year is particularly bad luck. People cancelled their trips, avoided crowded places and stocked up daily necessities. This means that discretionary spending will be down over a holiday period that traditionally sees lots of spending.
The question then becomes how long will this outbreak last, which is, of course, extremely challenging to forecast. However, we have some historical evidence from the past epidemics to draw the relationship between the development of virus outbreaks (i.e. confirmed cases, recovery cases, death tolls, etc.) and stock market recovery. On average, past epidemics took four months from the outbreak to significantly phase out (often killed off by warmer weather and humidity), while the incremental number of newly confirmed cases peaks normally two months from the initial outbreak - and this has coincided with stock market recovery. Applying this theory into the current Coronavirus situation where the initial outbreak happened in mid-January, means the situation could get more serious and fear will escalate into mid-March. This may also trigger stock market weakness, before we get evidence of stabilization of new cases, which then kicks off a stock market recovery. While this remains theoretical, it is something I keep in mind and we will keep a close watch on the pace of new cases.
The near-term disruption on the China consumer sector is unavoidable, but we believe indiscriminate panic selling could provide an attractive entry point for consumer related stocks and sectors that drive innovation, are market share gainers, and benefit from comeback of pent-up demand. A number of areas may actually be able to increase customer numbers and customer spending in the short term, thus offering potential buying opportunities in a mass selloff.
Overall, we believe the outbreak of this virus and the fear it has created will have a fairly significant negative impact on the China consumer sector over the next couple of months. We also believe that this is not restricted to China and we will see brands and industries around the world that rely on Chinese spending severely impacted too. Investor focus will also be on the overall economy and the authorities response. China has been in easing liquidity mode since mid-2019,and the positive impact to real economy was just about to happen. However, there are indications that the government will start implementing more monetary and fiscal easing policies, which will accelerate sentiment and business recovery from 2H20 onward - and this should have a similar impact on consumer related companies too.
The devastating coronavirus outbreak was of course impossible to predict, as is how this will ultimately play out. Therefore, as long term investors, we would not promote trading on news flow in the hope of predicting any turning point but will, as ever, focus on investing in good businesses with an eye on how they are valued in the coming months.
News & Insights - Asian Values PLC
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