A Plague On The Market, Or a Buying Opportunity?

How Will The Coronavirus Affect The Stock Market

The virus, which originated in Wuhan, China, has already infected over 40,000 and threatens to completely shut-down the Chinese economy.

The closest comparison to today’s epidemic is the SARS outbreak in 2003. The Wuhan Coronavirus is spreading at a much faster rate and is more deadly with 40,000 infected and 908 casualties. By the end of the SARS epidemic, there were only about 8,100 infected with 774 casualties. To date, there are less than 600 deaths related to the coronavirus.

Sickness Is Opportunity, For The Stock Market Anyway

Looking at data going back to the AIDS epidemic of 1981 it appears that sickness is an opportunity, at least where the stock market is concerned. There have been a total of 12 major outbreaks in the time since, not counting the current one, and in most cases, the market moved higher in the weeks and months that followed.

The initial market reaction to the news of a new outbreak is often bearish but the sell-offs don’t last long. A full 75% of the instances tracked show a net decline in market price at the end of the first month but the number only declines from there. The ratio falls to 33% at the three-month mark and then 16% by the end of the first 12-month period. Out of the 12 incidents, the market only lost ground with two of them over the longer-term and even then the losses weren’t large.

The mini-Ebola outbreak of 2016 was the worst to hit the market over the short-term. It (allegedly) caused a -13% decline in stock prices in the first three months since detection but there is a caveat. This outbreak occurred coincident with an earnings recession and we all know that it is earnings that really drive stock prices.

The AIDS outbreak was the worst to hit the stock market over the long-term. Six months after the first reported case the market was down -0.20% and extended that to -10.75% by the end of the 12 months. The other outbreak to result in lower markets is the Measles/Rubella outbreak of 2014, that event had the market up after six months but down -0.73% after 12 months.

In all other instances, the market moved higher on both a six month and 12-month basis. The average gain after 6 months for all outbreaks is 9.02%, the average gain after 12 months is 13%.

If you are planning on making a trade based on this data your best bet is a bullish one but it’s still a gamble. A chart of the MSCI World Index prices with noteworthy outbreaks highlighted shows little to no correlation between global epidemics and stock market prices.

That Was Then, This Is Now

The risk for the market is that times have changed. For one thing, the global economy is more closely tied together than ever, for another, the coronavirus is bringing China to its knees. The rapid pace of spread has the country on lock-down. Travel restrictions are the least of the worry, entire workforces are quarantined and businesses are shuttering their doors.

We won’t know the true impact of the virus on global economic output and by extension corporate profits until the data begins to come in. We won’t know how long that impact will last or even when the virus is fully contained until the last infected person gets healthy and goes home. It could be months before then. With businesses like Disney and Tesla closing their China operations it is clear that their revenue and earnings exposed to China will take a hit and it could be a big one.

The Technical Outlook: The World Is Poised For A Fall

The technical outlook for the MSCI World Index isn’t great. In fact, between the daily and weekly charts, the index looks poised for a fall.

On the daily chart, the initial knee-jerk reaction is over, the first round of selling has passed, but the market is setting up for another fall. Now trading back at the previous high, the index is in danger of creating a double top at previous resistance.

Looking at the weekly charts, the MSCI World Index appears to have entered a consolidation that could take several weeks. The indicators are consistent with this, bullish but weakening, so sideways action within the new range should be expected. Resistance is near the 7,120 level and, since the index is trading near resistance, the next move will probably be lower. The first target for support is near 6,880, so long as it holds the longer-term outlook is bullish. If support fails the world market may be in for a major correction.

Don’t forget, earnings are what drive the market and the outlook for earnings is positive. The caveat is that the estimates for 2020 EPS growth have been on the decline and that is weighing on stock prices too. If the coronavirus emerges as a significant detractor to 2020 EPS growth I expect the world’s equities market will correct again and this time set a new, much deeper, low.