Markets began the year strongly with the ASX 200 increasing 4.9% in January, the MSCI world index in $AU up 4.4%.

Since the beginning of February markets have retreated a bit on the back of fears about the Corona virus.
 
The number of coronavirus cases continued to ramp up over the last week, but there are some reasons for optimism that the outbreak will be contained within the next month or so. We looked at the issue and various scenarios around it here, though below are the key negatives and “positives”. First the negatives:
 
•The daily number of new cases is still trending up, although it has fallen in the last two days.
 
 
Source: PRC National Health Commission, Johns Hopkins CSSE, AMP Capital
 
•There are more cases than with SARS and it’s rising faster.
- Source: PRC National Health Commission, Johns Hopkins CSSE, AMP Capital
 
Source: PRC National Health Commission, Johns Hopkins CSSE, AMP Capital
•People can be infected with no symptoms for 2 weeks or so, making contagion easier.
 
But the following are also significant:
•It remains mainly confined to China with 99% of reported cases and 66% are in Hubei.
•The death rate is 2% & closer to swine flu than SARS, with 88% of those dying over 60 & 70% with prior conditions.
 
 
Source: PRC National Health Comm, WHO, Johns Hopkins CSSE, AMP Capital
•New cases outside China look more contained.
 
 
Source: Johns Hopkins CSSE, AMP Capital
 
Taken together, this provides some confidence that the coronavirus outbreak will be contained within a month or so. However, it will still have a very severe impact on global growth in the current quarter as people stay at home in China, travel stops and supply chains are disrupted globally, even if for a few weeks. We are assuming a 2-3% hit to March quarter GDP in China, but it could be worse than this. The Australian economy is likely to at least see a 0.2-0.3% of GDP hit from reduced tourist, education & resources earnings, which taken together with the bushfire impact of around 0.3%, will likely see GDP contract this quarter. If the virus is contained relatively quickly then growth should start to recover from the June quarter. Two big uncertainties at present are around the reliability of the coronavirus case number data and whether there will be a mutation making it more virulent. Further, the spread of cases on a cruise ship off Japan will only reinforce people’s desire to stay at home.
 
In Australia the RBA was upbeat and more hawkish. After better than expected jobs data for December and as-expected inflation for the December quarter, it wasn’t surprising to see the RBA leave rates on hold following its February board meeting. What was surprising though, was its relative optimism in continuing to expect growth to rebound to 2.75% this year and its perceived higher hurdle to cutting interest rates further.
 
•While the bushfires and coronavirus mainly pose a short-term threat to growth, a full recovery will likely take longer than the RBA is assuming; and these additional factors come at a time when confidence was already fragile. Accordingly, we continue to see growth through this year as being closer to 2.00%, as opposed to the RBA’s 2.75%. 
 
In our view, with growth likely to be weaker than the RBA expects, unemployment is likely to drift up a bit, underemployment is likely to remain very high and wages growth and inflation are likely to remain lower for longer. All of which will result in little progress towards the RBA’s full employment or inflation goals. So, something will have to give. Either the RBA relaxes it goals, which will weaken their credibility, or the Government will have to provide more fiscal stimulus, which would be the optimal outcome but not assured at present, or the RBA will have to undertake more monetary easing. The latter would entail taking the cash rate to the RBA’s suggested floor of 0.25% and then doing quantitative easing. Hence, we continue to see further rate cuts in the months ahead with a high chance that quantitative easing will be required, despite Governor Lowe saying that “it is not on our agenda at the moment.”
 
US earnings results have generally been good. 64% of US S&P 500 companies have reported so far, with 76% beating on earnings expectations (which is just above the long term average) by an average of 5% while 67% have beaten sales expectations. Earnings growth looks to be up by about 2.5% year-on-year, compared to market expectations a few weeks ago for a 2% decline. Market expectations for 10% earnings growth this year look a bit too high, but we believe it’s likely to be around 5-7%, which is still reasonable.
 
 
Improving global growth and still easy monetary conditions should drive reasonable investment returns through 2020, providing the coronavirus is contained in the next month or so. Returns however are likely to be more modest than the double-digit gains of 2019, as the starting point of valuations for shares is higher and geopolitical risks are likely to constrain gains and create some volatility.
 
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