Can an Epidemic Really Upend the Markets?

Freddy Lim

Co-founder and CIO

06 February 2020

We’ve been seeing more volatility in the past few weeks as markets react to the coronavirus outbreak. News of the virus’ rapid spread inconveniently came when the Chinese markets were closed for a week for the Lunar New Year holiday. On the first trading day back from the holidays, we saw a huge sell-off, with the Shanghai Composite Index plunging by nearly 8%. Given that substantial drop, we wanted to explore what disease epidemics have meant for the markets in the past so we could have an insight into the coronavirus outbreak’s effect on your investments in the medium to long term. 

To do this, we extrapolated data from outbreaks since 1980 to examine the impact of those outbreaks on the markets over different time frames. In the 12 epidemics we examined, we measured the duration and magnitude of loss caused by these epidemics since the markets first caught wind of the news. And we further analysed how markets performed up to 2 years after pricing in these epidemics. Though the dangers of epidemics in the physical world shouldn’t be taken lightly, we found that their impact on financial markets tends to be short-lived and not something to worry about. 

The 1981 HIV/AIDS pandemic had the longest and largest impact on global stock markets, proxied by the MSCI World Equity Index. As observed in the table below, the HIV/AIDS episode led to a market correction of -17% in the MSCI World Equity Index, but this substantial impact lasted only 5.1 months. The SARS outbreak of April 2003, the second-largest impacting disease, coincided with a correction of -14.4% in the MSCI World Equity Index, and lasted 1.9 months. As the data show, once the market prices in an epidemic, returns tend to start recovering within 1 month of prices bottoming out. 

Past Epidemics Impact on the Markets Up to 24 Months After Bottoming Out

Sources: StashAway Estimates, Bloomberg

Can the coronavirus derail China’s stabilising economy?

While we can expect some disrupted productivity in the Chinese economy, the coronavirus’s impact on growth will likely be short-lived. Keep in mind, the Hubei province, where the majority of cases were reported, makes up only 4% of China’s national GDP. Compare that to the SARS outbreak, which had a much greater concentration of cases in Beijing and Guangdong, which make up 15% of China’s national GDP.    

Although we can’t predict how this outbreak will progress, we know that unlike it did with the SARS outbreak in 2003, China has responded with world-class efficiency this time around. The Chinese authorities have been quick to implement measures to contain the spread of the coronavirus, and were transparent with sharing data and observations with other medical organisations around the world to help develop vaccines. As a result, global authorities are on high alert, and are prepared to take swift measures to manage the virus spreading outside of China.

In addition to managing the spread of the virus, China also continues to cushion any potential economic impact of the outbreak in the near term. For instance, China is pre-emptively keeping an accommodative monetary policy stance: China has injected 1.2 trillion yuan through open market operations, and has cut the reverse repo rate by 10 basis points to boost liquidity in the market. 

Ultimately, to evaluate whether the outbreak will impact the economy in any substantial way, we must consider the event within the context of prevailing economic conditions. Prior to the outbreak, our economic indicators had been suggesting that China’s economic growth was stabilising. The timely progress on the US-China trade deal, muted inflation, and a low-interest environment can also help mitigate the impact of the outbreak on the global economy. Although we’re still waiting for the latest Chinese economic data to come in, we’re of the mindset that the virus outbreak may delay China’s economic recovery but won’t derail it. 

What really matters

We’ve faced many market-disrupting events in the past 2 years that have caused short-term volatility. But as we repeatedly witness, short-term market volatility does not have an impact on the medium-to-long-term market trajectory. So, as an investor, you should always be discerning with the news and commit to not react to the short-term noise, be it an epidemic, or political conflict, or any other news shaking the markets.