Citi Personal Wealth Management

Falling Oil Prices, Yields, and Stocks — What's Next

Market Reaction: March 12, 2020

Highlights

A “one-two” punch of the coronavirus pandemic and falling oil prices has rattled financial markets with the Dow Jones falling over 8,000 points since February 12th, 2020. Although we did highlight back in January that past virus emergencies have resulted in market declines of 6% to 13%, we have been surprised by the severity of the recent sell-off. Though we would note that prior to the recent collapse in oil prices due a price war between Russia and Saudi Arabia, the sell-off was in line with about a 13% market sell-off.

We do not know how widespread or deadly the coronavirus will prove to be, but the impact on markets has been significant (essentially wiping out of much of the gains of 2019). This is not surprising given that the sharp rally in late 2019 was prefaced on the notion of a stabilization and uptick in global growth (see figure 1).

Figure 1: Global Purchasing Managers Index (Global Growth) vs. MSCI All Country World Index (Global Stocks)
Figure 1: Global Purchasing Managers Index (Global Growth) vs. MSCI All Country World Index (Global Stocks)
This chart shows an overlay of Global Growth and Global Stocks.
Sources: Haver Analytics, Bloomberg, and Citi Personal Wealth Management as of February 25, 2020. Note 1: The Global Purchasing Manager’s Index is compiled by Markit based on the results of surveys covering over 16,000 purchasing executives in over 30 countries. Together these countries account for an estimated 87% of global GDP. A number greater than 50 indicates an expansion, while an index below 50 indicates a contraction. Note 2: The MSCI All Country World Index is thought to be the best measure of the global stock market. There can be no assurance that these market conditions will remain in the future. Past performance does not guarantee future results.

With the outlook highly uncertain and the odds of a global recession rising with the coronavirus (COVID-19) transforming into a global pandemic, fear and panic have spread faster than policymakers have reacted. That should eventually change, but it will likely take time. Past sell-offs have also been quick, but so have rebounds (see figure 2). We believe that the key to finding a market bottom is three-fold: 1) a stabilization in virus infections, 2) more certainty on the actual economic impact, which requires data collection, and 3) a significant global policy response.

Figure 2: S&P 500 Performance During and After Epidemics
Epidemic / Pandemic S&P 500
Peak-to-Trough Dates During Emergency
S&P 500 Return
(% Change from Peak-to-Trough)
S&P 500 Return
(6-Months After Trough)
SARS January 15, 2003 - March 11, 2003 -12.80% 23.70%
Avian Influenza January 23, 2004 - August 12, 2004 -6.90% 11.70%
MERS September 1, 2012 - November 15, 2012 -7.30% 22.60%
Ebola December 31, 2013 - February 3, 2014 -5.80% 11.30%
Zika November 6, 2015 - November 11, 2016 -12.90% 10.60%
Average: -9.14% 15.98%
This table shows S&P performance during and after past health epidemics.
Sources: Citi Investment Research and Analysis – U.S. Equity Strategy, Bloomberg and Citi Personal Wealth Management as of March 16, 2020. There can be no assurance that these market conditions will remain in the future. Past performance does not guarantee future results.

While financial conditions are signaling that growth in the U.S. is likely to weaken substantially in the second and third quarters of this year (see figure 3), a rebound seems probable in the back half of the year as stimulus takes root. Importantly, while panic is the current driver of financial markets, key gauges of U.S. financial conditions, which reflect stress in the financial system, are still well above levels of the Global Financial Crisis and the U.S. banking system remains well-capitalized.

Figure 3: U.S. Financial Conditions Index vs. U.S. Real GDP (Two Quarters Lagged)
U.S. Financial Conditions Index vs. U.S. Real GDP (Two Quarters Lagged)
This chart shows an overlay of U.S. Financial Conditions Index overlayed with the U.S. Real GDP. There is a sharp dip in the U.S. Financial Conditions Index in 2020.
Sources: Bloomberg, Haver Analytics, and Citi Personal Wealth Management as of March 12, 2020. Note: The Bloomberg U.S. Financial Conditions Index tracks the overall level of stress in the U.S. money, bond, and equity markets to help assess the availability and cost of credit. A positive value indicates accommodative financial conditions, while a negative value indicates tighter financial conditions relative to pre-crisis norms.

Panicked investors should take some comfort in this and realize that the ultimate cure for most crises is simply time. While markets “may take the elevator down, they often take the escalator up.” While the S&P 500 may fall into the range of 2,300 to 2,600 before finding a sustainable bottom, there will be a bottom. Citi’s 2020 year-end target for the S&P 500 has been reduced from 3,375 to 2,825 to reflect the likely hit to corporate earnings, but it still represents upside from today’s levels.