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End of longest bull cycle

Health crisis, oil war, threats to food: what recovery scenarios? With Stéphane Monier of Lombard Odier.

The coronavirus crisis is compounded by an oil crisis confronting Saudi Arabia and Russia. In the background, there are risks to the vital supply, especially of food. What will the future be like? A few questions to Stéphane Monier, Chief Investment Officer of Lombard Odier.

The coronavirus took everyone by surprise. Can you go back to the context?

Economically, this crisis is occurring as we experience the longest upward economic cycle in history. This cycle was expected to end, but in the form of a rise in inflation and not a pandemic. Since mid-March, there has been complete uncertainty, particularly with regard to the published health statistics which do not appear to be consistent. The impact of the measures is very severe. Established to curb contamination – and thereby reduce the pressure on healthcare systems and on deaths – they destroy economic circuits. The diversity of health measures from one country to another does nothing to ease the confusion. As for the time and methods of deconfinement, they remain unclear. Will it depend on the existence of serological tests that would identify the true extent of the epidemic, its contagiousness and its mortality? Will we take the example of South Korea, whose methods seem more effective than ours? In any event, the reboot could be much slower than initially imagined. And there is even greater uncertainty about the type of economic recovery. Resumption in V, in U, in L, in W? We will soon run out of letters of the alphabet! Our team is rather planning a recovery in the form of a “check mark” () with a fairly long rise.

“This situation is not sustainable
for shale gas producers. “

The coronavirus crisis is compounded by a conflict between two of the major oil producers, Russia and Saudi Arabia. As a result, the price collapsed. What impact?

The destruction of demand is unprecedented, hovering around 20 to 30 million barrels per day. The origin of the conflict comes from Russia’s refusal to reduce production to maintain prices, after having agreed to this for several years. Why? Because it realized that this control of its production did not benefit it but mainly benefited the American shale oil producers, by keeping the price of black gold above their breakeven point (around 45 -50 dollars a barrel), implicitly, President Putin is also waiting for the lifting of American sanctions against Russian individuals and companies, this reversal of posture could push the United States to adopt a more conciliatory tone. In response to the Russian refusal, Saudi Arabia began to rush. Which, in my opinion, will do more harm to Arabia which needs a price around 80 dollars per barrel to maintain its budgetary balance than to Russia whose balance is more robust and which benefits from a low debt and large foreign exchange reserves. This situation is not sustainable for shale gas producers. OPEC + and the United States are expected to take coordinated action to withdraw up to 10 million barrels per day from the supply. Whatever happens, stocks will build up significantly until May, resulting in a very volatile spot price. The long part of the curve (maturity beyond 2021) should appreciate. More generally, the collapse in oil prices is a disaster for other producing countries such as Nigeria and Kazakhstan.

But isn’t that a blessing for importing countries like India or China?

It would be if the measures attached to the coronavirus had not considerably reduced transport and part of industrial production, thereby limiting the beneficial effects.

We are talking about possible serious problems in the food supply chain. What about it?

It is certain that we will have to arbitrate between health measures and vital supply. It’s as much about logistics as agriculture that we’re going to have to worry about. So far, the draft responses are a bit “amateurish” and it will be important to find a more reasonable, more effective balance. In the longer term, I think we will see a fundamental movement towards more local productions, shorter supply chains, less just-in-time operation. That will also allow us to tackle the repair of damage done to soils in the cereal plains, for example. In this, the coronavirus crisis will serve to accelerate existing trends.

“If the optimistic scenario is confirmed, we must buy stocks.
In the dark scenario, gold and cash. “

What are your economic and financial forecasts?

To date, it should be noted that the equity markets have lost 28% in Europe and 22% in the United States. We have defined two scenarios. A fairly optimistic first and a second pessimist. The favorable scenario envisages a fall in European GDP of 7% and in American GDP of 2% in 2020 with a resumption of growth of 4 to 4.5% in 2021. This scenario estimates a potential increase of the S & P500 of 17% for the end of the year at 2,900 points. It would be the biggest recession since World War II. However, if health measures proved to be ineffective and if a second wave of epidemic accompanied by massive bankruptcies were to occur, the scenario could be much darker still because we entered this crisis considerably more in debt than in 2008. In this second scenario, the fall of European GDP could reach 12.5% ​​in 2020 and that of American GDP 7%. The recoveries in 2021 would be 0.5% and 1.5% respectively. The S & P500 would continue to collapse all year round, reaching 1,800 points at the end of 2020.

How do you manage the portfolios under these conditions?

It is difficult to assign probabilities to these scenarios. If the optimistic scenario is confirmed, buy stocks. In the event of a black scenario, gold and cash. At present, our balanced portfolio contains around 43% equities, 7% cash, 27% bonds and 23% alternatives, therefore 6% gold. Besides, we are long on the yen. We have also implemented a portfolio spread protection strategy to protect against a drop in the equity markets between 5 and 20%. This dynamic coverage only covers 10% of equity positions. For bonds, we avoid illiquid markets (emerging debt or High Yield) and focus on quality sovereign debt and investment grade.

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