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How Lombard Odier are weathering the COVID-19 storm
At Lombard Odier, we are weathering the COVID-19 storm.
Our objective is to be responsible and break the chain of transmission. We are focused on protecting the health of our clients and colleagues whilst ensuring our business can operate. Despite the troubling times we are living, we remain by the side of our clients. We are fully operational – all our bankers, investment professionals and technology teams are mobilised and ready to support.
From a macro point of view, economically and financially, we must manage to contain the crisis within the first half of the year and avoid it spilling over into the second half or even 2021. Although there is a risk that responses to the crisis might fail, our base scenario remains that a three dimensional response will be the solution to fighting COVID-19.
How to contain the shock?
- The public health response
This is the primary and most important factor to take into account. The public health response needs to prevent the virus spreading in an uncontrolled way using testing, tracking, and continued country lockdowns. And we have an existing benchmark – Asia. If we apply the same solutions, we should be able to have the same success seen in Asia, as they have been able to flatten the curve. Despite early doubt in the European Union's (EU) response, we are seeing the EU take decisive steps. And we expect to see that the new containment measures will work.
- The monetary response
Due to the current market volatility, we see a lack of liquidity, increased funding stress and businesses struggling to roll over existing loans. Central Banks have come up with extraordinary responses. They are compensating for commercial banks and financial markets. Never in post World War II history have we seen banks behave this way. For example, the European Central Bank have created a flexible asset purchase programme of approximately 120bn Euro per month. For comparison, after the 2008 crisis, it was approximately 80bn per month. The Fed has also undertaken ambitious measures to support the economy.
- The fiscal response
Today there is an income shortfall. Businesses lack activity and economies are experiencing job loss. The governments must continue to compensate for this. In the US, they have 2tr USD fiscal programme. This is the biggest in US history. For some historical context, the Marshall Plan, was 17bn USD which equals in today's money 1.3tr USD. The fiscal response in US, as a result of the outbreak, outweighs its post World War II fiscal plan.
Things are moving in the right direction. And they should be effective in the weeks to come.
So what is our base case scenario?
We expect a deep recession in the first half of the year and expect to see a recovery in the second half. We see this shock as a natural disaster. It is as if the economy has been hit by a snowstorm for three months. Supply chains and consumption patterns have been totally disrupted. Although damage is expected, we would see no reason why we cannot expect normal activity after the deep, but transitory shock. The safety nets laid out by governments and central banks will ensure the economy does not spiral out of control. Of course, we cannot rule out the risk that Asia, Europe or the US fails to contain the virus. This scenario would result in a severe shock throughout 2020 and well beyond. That would constitute a wartime scenario where recovery would be very difficult to reopen and growth levels extremely low.
Why do we believe in our base case?
We track using daily indicators. And we are using the recovery we see in Asia as a reference point. Their public health responses have been relatively successful at containing the virus. Further, once the virus is contained we can see certain trends that support our case. For instance in China, during the lockdown, real estate transactions were next to zero. Yet when the economy reopened, they bounced back to similar levels we have seen over the last two years. Another indicator has been the daily burning of coal by companies in China. Coal burning has, in fact, normalised again after dropping during the lockdown. These indicators show that once the virus is under control, we can expect activity to normalise.
Our portfolio positioning
At this stage, we expect a transitory contraction with the most likely recovery curve being a brutal decline followed by a quick rebound that then tails off. Once the worst of the pandemic has passed and economies begin to recover, we expect equity markets to see 20% upside, high-quality credit risk normalise, and gold trade around 1'600 USD. We maintain our underweight exposure to equities, but keep portfolios hedges in place, including put spread options, gold, yen, and US Treasuries.
However, a more negative scenario cannot be ruled out. If the virus is not contained, we could face a protracted recession, equity markets could see an additional drop of 30% and gold rise to 1'900 USD. In reaction, we would increase our holdings of safe havens.
Although we are in a time of crisis, it is our strong belief that banks are stronger than they were in 2008.
We, at Lombard Odier, are a stable, solid bank with a highly liquid balance sheet. We are one of the best capitalised banking groups in Europe. We have navigated over 40 financial crises in the last two centuries and continue to work together in these troubling times.
We strive, once again, to navigate through this turbulent period in a safe and prudent way.
Important information
This document is issued by Bank Lombard Odier & Co Ltd or an entity of the Group (hereinafter “Lombard Odier”). It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful, nor is it aimed at any person or entity to whom it would be unlawful to address such a document. This document was not prepared by the Financial Research Department of Lombard Odier.
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