Even if the coronavirus had not come about, I feel this season would have been particularly harsh for illness anyway. I say this as I muddle through my third illness in the past 3 months: 2 colds and one mild flu case, despite getting the shot.
Before I get into the economic fallout of the virus, it’s not lost on me that even the discussion of economic fallout when so many people are dying or suffering with sickness is a bit of a cold viewpoint at best. This isn’t to minimize their suffering or to imply that economic growth and income trump basic human compassion. This is a serious health crisis for China and it’s not in a bubble on its own. We don’t want people to transmit the virus but people also have to earn money to eat and take care of loved ones. It would be great if we could all just stay indoors all day and live off rations, but this isn’t realistic, at some point economic necessity will meet risk of transmitting the virus for some people.
The Impact
The impact in Wuhan and China at large is obvious and serious. The government tried to extend the lunar new year by 10 days but people are very slow to come back to work. Provincial officials are under intense pressure to not let the virus spread within their administrative area so are withholding permission from everything from trains leaving stations to businesses opening.
It’s been reported that only 10% of the workers have returned to Foxconn which makes parts for the iPhone. In fact, Apple is so dependent on China for assembly of its products that it ferries about 50 executives between California and China every day. The travel ban and low to no production are going to hit companies that rely heavily on a Chinese supply chain and those that rely on Chinese consumers like GM. Analysts are estimating that the company could ship as much as 10% fewer iPhones this quarter and will not be able to ramp up production of its AirPods.
It is also estimated that 400,000 Chinese will cancel trips to Japan by the end of March. Cancellations of major international conferences like the Mobile World Congress after major companies pulled out, even though it was in Barcelona, nowhere near China.
China is also a major exporter of textiles and apparel, it accounts for 40% of the global total. The country also consumes 20% of mining products such as metals, which it needs for manufacturing. Below you can see the amount of textiles exported globally in 2017.
Source: shenglufashion
This global reliance on China is going to impact those miners who ship their product to China as well as clothing makers who depend on China to make their wears. This impact is being felt immediately. I am already seeing online drop shippers, media personalities that sell clothing off the internet, delay or stop shipments because nothing is getting produced in China currently.
Due to closed ports and roads which restrict travel around the country, large importers like CNOOC, the largest liquified gas importer, have been attempting to refuse shipments from big oil companies like Total and Shell. These companies are invoking Force Majeure clauses, which absolve either party of liability due to an “act of god” but usually only for a period of time. After that time expires, the importer may be forced to take the shipment, whether they want it or not.
How Markets Are Reacting
Funny enough, only the old dinosaur markets for physical things like metals and oil seem to be pricing these events in. Oil is down 17% year to date, a sector which was already struggling but is taking a direct hit now as demand shrinks.
Source: markets insider
While copper has fallen about 7.5% year to date after the news broke as well.
Source: Nasdaq
Meanwhile the S&P 500 is up 3.6% year to date and even rallied last night after the WHO qualified the spike in new cases in Hubei Province after a dramatic increase of 15,000 cases was due to the way they were being detected, not that it was suddenly growing by leaps and bounds.
Wall St. is dedicating resources to tracking this as well. JP Morgan even has a full time analyst tracking coronavirus named MW Kim who comes complete with an infection model, updating his forecasts everyday on when he thinks it will peak.
When we have to depend on the Chinese government for reporting though, I fear those numbers going into the model may make all its underlying assumptions worthless. If you are start with inaccurate data, anything you extrapolate from that is just going to be a bigger echo of a lie.
Going Forward
This epidemic has eery similarities to the start of the last downturn in an economic sense. Just like in 2008, there were some initial bumps in the road and some disturbing data, but the markets just kept convincing themselves that everything was ok and the endless growth would just continue.
In this case, the US economy is still strong and China, second or first largest economy depending on how you count, was just starting to re-emerge from the slowdown egged on from the trade war. I think we can definitely expect an immediate slowdown in China and maybe even a contraction in growth this quarter as this drags on. Given the new infections and the rate it seems to be following, it neither seems as if this will “peak” or be contained any time soon.
In the US, those firms heavily dependent on China’s consumers and its manufacturing will be hit first which could spill over to the rest of the economy. This could start to cause a significant drag on activity, especially if it is not contained and doesn’t peak within China within the next few months.
All this just in time for US presidential elections this year which could pack a surprise just as big as the one in 2016. None of this bodes well for markets. It has been a great 11 year run but the impact of this virus and the economic fallout may be more severe than the markets are letting ok at this point. It doesn’t help that the data is questionable from a government that is so concerned with its international image that it is willing to obfuscate the figures.
I think there is going to be a long drawn out infection period in China and countries should focus on doing their best at containment, not waiting for the peak in China in the hopes that this will just go away. It’s estimated that the average carrier transmits it to 3 people and in a case in Hong Kong they think the virus was transmitted via an open pipe in a building to others.
Economies in Asia will be hit first and hardest outside of China, among them Japan and Korea, also major exporters to the US. The first and most immediate effects in the US, besides those that get the virus will be a shortage of goods that depend on China for their supply lines. Japan is the third largest economy in the world, so a slowdown there will also reverberate across the US and the globe.
The Good News
The good news on this outbreak however is that death rates are usually vastly over reported when a virus first breaks out. Right now, simple arithmetic says the death rate is between 2-3% but this could be vastly overstating things and again, is dependent on Chinese data. In reality, we could have many more people infected but on the flip side have less people dying. Speculation is also arising that the virus seems to be more potent in the elderly and middle aged but is not impacting young children as heavily. At least this may assuage the fears of worried parents, who right now should be mindful of the flu anyway.
I think we are just starting to see the tip of the iceberg in the fallout for the global economy when it comes to coronavirus. Be prepared for worse news to come. All we can do for now is wait and see how this plays out.
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