Here Comes the Stimulus

For the past couple weeks, equity markets have dealt with the increasing likelihood of recession (a prolonged, broad-based contraction in economic activity) resulting from the societal efforts to contain or slow COVID-19 in Europe, the UK and North America. Now, the same governments are seemingly trying to ride to the rescue. Just one week after announcing £50 billion worth of help, the British government announced an additional £350 billion in business lifelines, support for private lending and tax relief Tuesday.^[i] Several European nations, including France and Germany, have also unleashed billions of euros in fiscal stimulus and effectively suspended the EU’s self-imposed government deficit and debt limits.^[ii] The US, too, is considering around $1 trillion (roughly £870 billion) in various forms of stimulus.^[iii] Without having any specifics or actual legislation to assess in most of these nations, a deep dive on winners and losers globally is premature, in our view. For now, we think it is important to simply acknowledge the massive wave of money lurking and help investors set reasonable expectations on what it is likely—and unlikely—to do.

First and foremost, we don’t think fiscal stimulus (or monetary policy, like interest rate reductions and asset purchases) can stop the economic consequences of closures, outages and interruptions to business. Nor, in our view, can it reopen the stores, restaurants and tube stations that close either voluntarily or due to local emergency restrictions. It won’t prevent a possible approaching shutdown of most commerce and movement in London. It can’t heal the sick, keep schools open past Friday or return people to the workforce. Most importantly, it can’t force COVID-19 to fade with flu season a month or so from now. Only when COVID-19 fades is life in the UK and elsewhere likely to start returning to normal, in our view—and that likely happens when it happens regardless of how much stimulus governments unveil.

So governments and central banks aren’t saviours, in our view. But crucially, we don’t think the global economy and markets need a saviour. Not because of anything unique about this bear market (a prolonged, fundamentally driven decline in share prices of -20% or greater), but because recessions typically end with or without stimulus. Equities move in advance of economic data, and our research indicates many bull markets have begun long before data improved. The last bull market (a prolonged period of generally rising share prices) began in March 2009, when unemployment was rising and GDP (a government-produced measure of economic output) was falling in most countries.^[iv] The recession didn’t end in America and Britain until that July—and data revealing those green shoots didn’t come out until late summer and early autumn, nearly six months after shares bottomed.^[v] In our view, this shows equities don’t wait for improved data. Rather, we think all they need is sentiment becoming overly pessimistic, creating an easy benchmark for a not-as-bad-as-feared reality to beat.

Now, you might rightly argue that, by the time equity markets bottomed in 2009, governments and central banks globally had announced trillions of pounds’ worth of stimulus. Fair enough. But think a few years ahead, to 2012, when the eurozone was in the grips of its sovereign debt crisis and a regional recession that began in 2011. There was no stimulus then. Instead, governments throughout the currency union were enacting austerity—tax increases and reductions of government spending—the opposite of stimulus. Yet eurozone shares recovered anyway, well ahead of an economic recovery that began in Q2 2013.^[vi] A jump start might have helped, but we don’t think it was necessary.

In our view, the stimulus measures Chancellor of the Exchequer Rishi Sunak announced this time likely bear most of their fruit in the months after businesses reopen and life gets back to normal. The bulk of the stimulus (£330 billion) is in the form of lending assistance, which we think will help cash-strapped businesses get over the initial hump after weeks (or more) of lost revenue. Grants for small businesses also likely take some time to roll out, and the benefits of a 12-month reprieve on business rates (a type of property tax) for hospitality, leisure and retail firms could extend well past the downturn. Plus, in our experience, stimulus measures tend to hit gradually and not all at once. This would make them a delayed tailwind, and one that likely lingers for a while. Last time, the financial crisis-era stimulus in the developed world gushed out over about two years. We think it is too early to say whether the tailwinds last similarly long this time, but at the moment, it looks to us like governments may be far overshooting the likely economic consequences of containment efforts. That isn’t a judgment—just an observation—and we think it likely hinges on how long the disruptions to business persist.

In our review of financial news, we see some pundits fretting the associated impact on public deficits. Those concerns reigned in 2009, too. We think the time to crunch those numbers will come later, but for now, we would simply note: Long-term government yields are at historic lows across much of the world—10-year gilts, for example, presently yield just 0.72%—and demand for government bonds with any reasonable yield appears off the chart.^[vii] Theoretically, the US, UK, Germany, France and many others could issue 30, 50, even 100-year Treasury securities to pay for all this, locking in these astoundingly low funding costs for decades. We think the potential return dwarfs the marginal cost. That, not the deficit itself, is what matters most, in our view.

Lastly, as the details of all these stimulus plans emerge, we suspect pundits will spend significant time and energy time analysing and grading them. Whilst we think it will eventually be beneficial to explore the immediate impact on households and businesses, we think debating the efficacy of whatever projects governments choose to invest in, which businesses get lending assistance or who gets how much monetary assistance is probably beside the point. In our view, fiscal stimulus isn’t about the first spend. It is about injecting more money into the private sector, where households and businesses can spend and re-spend it—the so-called multiplier effect. Even if it takes three or four spends, we think the money eventually gets to its best, most productive use. The market is exceptionally good at guiding these things, in our view. It did so last time and probably does again.

So no, we don’t think stimulus will cause a new bull market to begin. In our view, it is simply one more reason to be optimistic that a recovery, whenever it arrives, will have plenty of strength.