'Panic has peaked, but maximum pessimism awaits'


The point of maximum panic has already been reached, says Keith Skeoch, chief executive of Standard Life Aberdeen (SLA) and an astute, veteran stock market observer.

But the point of maximum pessimism is still to come: people do not yet appreciate that we are heading for the worst recession since the war, where company earnings will be really badly hit.

However, it is somewhere between these two points where value and buying opportunities lie. Some resilient companies will emerge even stronger and the opportunity to lock in high levels of income at low prices is already here.

In our first Citywire Virtual interview, Skeoch discusses what now needs to happen to prevent the recession turning into something worse, highlighting some bright spots and opportunities.

 In this interview, Skeoch argues:

  • the coming recession is likely to prove the largest of the post-war period;
  • while the point of maximum panic in stock markets has probably been reached, the point of maximim pessimism has not;
  • China’s return to normal working patterns could provide the first signs of optimism;
  • the ISA allowance should be doubled in a drive to turn savings into investments;
  • investors shouldn’t panic, and shouldn’t stop investing;
  • the only golden rule of investing is to ‘buy low’, and the sell-off provides an opportunity;
  • the suspension of property funds was the ‘appropriate’ response to valuation uncertainty.

Can’t watch now? Read the transcipt

Lawrence Lever: First of all, Keith, it’s lovely to see you again and I hope you and everyone at Standard Life Aberdeen or Standard Aberdeen, everyone is safe and well.  There’s such a huge human issue to all of this, but we’re going to talk about the economic and market dimensions.

Keith Skeoch: Lawrence, thank you so much and we’re doing our very best to keep colleagues safe and well and from everybody here, I hope colleagues at Citywire are similarly well and in a safe place.

LL: So I’m really interested in how you are interpreting what is going on and how you see the roadmap going forward, both in terms of the markets, both in terms of recessions, both in terms of-, not both, but all these-, in terms of all of these issues, which a lot of our readers and your customers are going to want to understand what your thinking is.

KS: Thank you, Lawrence.  I have to say, 40 years in the business I think I’ve worked through seven different financial crises and they’re all very different, but I’ve never seen something with the potential shape of what we’re facing at the moment.  The first thing I always say to people is, the deeper the crisis the calmer you need to be.  Particularly, with respect to making long-term investments.  It strikes me there’s a couple of things we can say from what we know today about what’s developing.  The first is, I think we just need to accept that this is going to be very difficult in economic terms, that we are facing probably, the deepest recession we’ve seen in the post-war period.  That there will be a dramatic slowdown in economic growth and also, accept that those are the economic consequences of governments trying their level best to keep people safe, but in order to keep people safe, you need to restrict economic activity.  So, I think we’re going to see, as I say, a sharp shock to economic activity that’s bigger than I’ve seen in my lifetime.  So that will include the financial crisis, the 1974, 1975 oil price issue and of course, the early 1980s. The question is, people are saying, okay, how long does it last?  What does that mean for markets and the bear market?  So, I think some news and some analysis would say, the average recession in the United States in the post-war period was 11 months so, anything shorter than that would be good news.  That’s going to be dependent on whether we’re able to contain the coronavirus.

I think the other thing that’s worth pointing out is that typically, bear markets had a fall in share prices of about 30% and we’re already in that territory.  We moved, I think it was, from bull market to bear market in an unbelievable amount of time, about 22 days.  So, there is an awful lot already embedded in market prices.  Normally, when I look out at these things and try and work out where the rhythm is, there are three things that you look for in terms of the pickup in economic activity, when that becomes visible and then of course, when investors start to look forward across the valley and discounting the bad news.  So, the first is, you get a monetary policy response that’s aimed at boosting confidence and providing some support to economic activity and I think we’ve seen that in spades, over the last couple of weeks.  We’re all aware that monetary policy is out of gas.  You then see, I think, a fiscal response and that fiscal response needs two components to it.  One is a means of supporting economic activity, employment and therefore, short run economic activity and I think we’ve seen evidence of that in the UK, elsewhere in the world and of course, last night in the United States.  You also then need to see fiscal boosts coming in that will stimulate economic activity and I think we’ll see more of that over the coming months. 

Then finally, something we’ve all talked about a lot in our industry is regulation.  Regulation tends to be founded in the fires of crises and by the reaction to them.  So, I wouldn’t be surprised if we saw a change and a switch in the regulatory environment, which will at some point, start thinking about how it helps facilitate recovery and a rise in asset prices.  I think that we will see, on the assumption that the virus is contained, a recovery.  Given everything I’ve said, when it comes, I think it will be relatively strong.  I think it’s too early to talk about the timing.  Given all those things that are falling in place, what we’ve said to people here is, looks to me, given the market action in the last couple of days, the point of maximum panic is probably over, but I’m afraid to tell you I think the point of maximum pessimism is yet to come and it’s somewhere between those two points that I think buying opportunities in risk assets comes.  So, I think it’s going to be a very difficult year for equities and risk assets in 2020, to state the blinding obvious.  At some point over the next six months there will be a significant opportunity, providing you’re willing to take an 18 month, three to five-year view and my plea for everybody is, keep calm and focus on the fundamentals because value, I think, is being created as we speak.

LL: Thank you, Keith.  Can I pick up on one or two of those things that you said?  What sort of fiscal boosts do you have in mind or you think we might see?  Are you talking tax breaks for investment or what?

KS: I think it’s got to be-, well, the most important thing is that we really have a push across society that starts to turn savings into investments and I think there’s a whole variety of stuff that needs to happen.  So, the public sector needs to play its part in supporting companies, supporting capital spending.  It needs to promote infrastructure.  There’s no reason why we can’t have a whole host of programmes here about putting in public sector housing, putting in better transport links, expanding and upgrading the schools’ network.  I also think that one of the things that the government needs to look at is balancing up the fiscal equality between equity and fixed income that’s there.  So actually, thinking about how you put incentives in place that promote the turning of savings into investments.  So, if I was the Chancellor today, one of the things I’d be looking at for the medium-term is doubling the ISA allowance.

LL: I was just thinking that.

KS: So that people get some kind of incentive.  I think there are dangers about putting tax allowances in for capital spending.  We’ve been there and it wasn’t always productive.  What we need is, I think as well as those fiscal measures because these are very special circumstances.  We need-, and I think it needs to be a politician, government led narrative about how we all need to invest in our future.  I think the industry needs to play its part in that.

LL: Yes, can I just ask you, in terms of regulation, you mentioned regulation.  Do you have any things in mind there, is it a loosening of regulation or is it some specific things like for example, limiting the ability to short sell?

KS: It’s less about the short-term mechanics than I think the deep incentives that are embedded in our financial system and actually, clearing some of those.  So I’ve had a bee in my bonnet for some time about patterns of risk-based solvency, whether it’s through the Basel Agreement on banks, Solvency II for insurance companies or some of the pensions legislation that actually, what it does is it stultifies long-term investment by having an over focus on using interest rates as a discount rate.  Now, you know, making sure your solvency is intact is a good thing and I think we have a risk-based solvency system at the moment that actually, generates a degree of risk aversion.  So the banks at the moment, have plenty of liquidity, but the incentives that are embedded in the way in which they manage their own risk weighted assets are all designed to make sure they hang on to that and we all understand why because that was a reaction to the previous crisis, but actually, it’s something which is not serving us well.  So getting thoughtful movements in those deep incentives that allow institutions and people to take a long-run view and also, increase the freedom to invest, I think is going to be important because we are going to need a shedload of investment to make sure that this coming recession doesn’t turn into something much more difficult. 

LL: You talked about the point of maximum panic and the point of maximum pessimism.  I understand the layman’s expressions panic and pessimism, but what is the point of maximum pessimism?  Do you mean in terms of the virus and the number of people that it’s unfortunately, killing or are you talking about something else?

KS: I think I was really talking in a narrower sense about financial markets.  So, we’ve moved from, this will be a short, sharp downturn to this looks like it’s a relatively difficult economic problem to solve.  I’m not sure that people have really understood the extent of the issue.  So as we see-, and as we move away from people rushing for liquidity and we look at the economic numbers as they roll out and the impact on earnings, etcetera, I think that’s going to be-, those numbers are going to be a lot lower than a lot of people think at the moment and it’s only when you start to digest that, that I think you get to the point of maximum pessimism.  Just to even things up, I was on the phone to my guys in China this morning and they say that working in Shanghai is returning to normal.  So, they think within three weeks they’ll be back away from red and blue team split sites and returning to normal.  So, there is some evidence that this thing will be contained.  I think our perceptions will just get worse before they get better. 

I think the other point I would just make, Lawrence, you’ve heard me talk about this before.  My belief for a long time was there was no inflation in the world.  There is absolutely not inflation after this.  Deflation becomes the issue. So actually, the Chancellor or the policymakers, etcetera, to take a risk and do something above and beyond the pretty radical things that they’ve put in place economically, is de minimis.  There’s a dominant strategy that needs to kick in here.

LL: Are you happy with what they’ve done so far?

KS: I think let’s give them credit that they’re trying to do their best in very difficult situations.  So actually, if you look at what’s gone on the UK, that was a pretty extraordinary budget statement from the Chancellor.  So there seems to be appetite to do radical things and to try and mitigate the undoubted effects.  So, I don’t think it’s a time for criticising. Let’s see how this develops and let’s look at the outcome when we get to the other side because people-, these are strange, difficult, unforeseen circumstances and I think people need to be given credit for trying to deal with difficult issues.  People are not hiding from it at the moment and I think that’s quite important.

LL: I think my own observation would be, as far as the UK, I think the initiatives they’ve announced have been pretty good and some of them you’re able to take advantage of immediately, such as deferral of income and corporation tax and VAT.  Some of the others, it’s a matter of working through the detail and they don’t instantly come into impact.  So, the coronavirus loan scheme and the coronavirus worker support scheme.  We’re not quite there yet in terms of understanding quite how to take advantage of them, but they are very sensible measures.

KS: They’re large.  The measures announced are equivalent to 15% of the income measure of GDP, which is big.

LL: Anyway, you also have connections with-, deep connections with advisers and even with end-clients.  So, let’s just talk a little bit through what your keep calm message actually entails.  What should people be doing?  Whether they’re advisers advising or whether they’re end-clients.

KS: Don’t panic.  The speed of the drop in equity markets means that unless you were clever enough to have done something about it at the time, you’ve kind of missed it.  Keep investing where it’s part of a long-term savings plan.  History shows that pound cost averaging is a very successful investment strategy.  It also shows that if you continue to invest actually, when markets eventually and finally recover, then you’ll reap the long-term benefits and I think the other thing is obviously, you continue to talk to your advisers and your planners.  So, I think it really is a time for people to keep calm and actually, keep thinking about investing in your own financial future.  It’s important.  The need to do that has not gone away.

LL: Could you be a bit more specific about investing in your own financial future?  One or two examples.

KS: Well, you’ve heard me say this before.  So, I think the golden rule in investment is there’s only one and that’s buy low.  Actually, we are getting an opportunity here to get in at extremely low levels of valuation.  I wouldn’t rush because I think there’s plenty of time to take a long-term view to put new money to work, but I certainly would ensure that money that’s been invested at the moment, continues to work and you know, we’re working through our portfolios at the moment, looking at where value has been created.  One of the things that happens in a move like this is, you get crisis levels of correlation.  So, everything goes down together.  There are some financially very, very strong companies out there with really robust business models, who are going to come through this in good shape and even stronger.  It will take time for that to emerge.  So that’s where we’re spending our time looking at where the real quality and the financial resilience and business resilience is in good shape.

LL: The dividends on some of these blue chips do look rather mouth-watering, but you do wonder if it’s illusory and there’re going to be dividend cuts.

KS: There’ll be a mixture, I think.  So, where there is a real need for somebody to support their business model so that they will have to trim back their dividend that is the right thing to do.  Actually, it will be I think, to benefit of society if they keep people employed.  There are other companies that are financially very strong, have a degree of resilience and they will continue to be able to pay their dividends even at the relatively high level of dividend yield and that’s doing society a favour, as well because a lot of people rely on dividend income as part of their day-to-day spending.  So, there’s got to be a mixture and I think one of the things we’ll be doing as equity managers, is providing support and listening to what people are saying about their dividend policy.  So, I’m afraid it will be horses for courses, it can’t just be a one size fits all.  Some companies will, I think, need to reduce their dividend pay outs in order to support activity.  Others, where they are financially able to, I think they’re providing a degree of income support through doing that, that actually, the public sector shouldn’t have to do. So like all of these things as I said earlier, there’s a balance to it.

LL: One of the other issues I just wanted to raise is the number of property funds open, unit trust type property funds have suspended and that’s happened so many times before.  I just wonder, how do you interpret that?  Is that the mechanisms working or actually, it’s time for property-, physical property to only be held in investment trust type structures?

KS: I think there are two calls on that.  One is, I really do think this time that the mechanism is working.  So, to be clear, these funds have not suspended because of redemption activity.  The reason they suspended was the valuer quite rightly said, when we get to the month end and quarter end, it’s going to be very difficult to strike a reasonable valuation, given what we’ve talked about in economic terms.  So, there is material uncertainty about the prices, about the values of property and therefore, I think it’s quite appropriate to suspend and to protect people who are in the funds.  So, the fact that it actually was proactive, I think was a good and appropriate thing.  I think as we roll through the crisis and we look at the regulatory environment, there’s a lot changing.  I think there’s a lot going to change going forward and I suspect that one of the things that people will be looking at, is what should or shouldn’t be in a daily priced fund and is a daily priced fund absolutely necessary for all kinds of assets?  40 years, Lawrence, one of the things I have learnt is don’t see around too many corners.  I think that is something we’re going to have a debate about and I think we will move on and resolution, but I suspect there are more pressing issues that we’re all trying to deal with today.

LL: Just in terms of this particular market downturn or bear market, I guess one of the things that distinguishes it from previous ones is the sheer volume of assets that are now held in passive investing strategies and I wonder whether you think that in any way has exacerbated any of the falls or even the rises?

KS: Difficult to know.  So, I think given the economic downdraft and given the level of uncertainty, we were inevitably going to see these kinds of volatility in asset prices.  I think the concern has to be and it’s early days, that given the particular form of the wrappers that actually, one of the things that has resulted is, difficulties in pockets of liquidity in the marketplace and we’ve always been told that one of the great benefits of the rise and rise of the ETF with all its transparency, is that in the event of a downturn, these will be self-liquidating and it won’t cause an issue.  I think time will tell.  I do think myself, that there’s a huge opportunity here for active managers.  If you look at the markets and you go back and you look at 2016, 2017, 2018, 2019 and now 2020, it’s been a bit of a rollercoaster and actually, if all you’ve had is pure beta, you’ve enjoyed the ride up, but my god, it’s been a difficult few months.  So, the ability to diversify away from that is really what active managers should be looking to do and helping people dampen the sense of the volatility in their portfolio.  I think the other thing which might be absolutely blindingly obvious from what’s going on at the moment, I think we are being given a really, really timely reminder of the importance of income in investment return, as opposed to just capital gain.  Income is something that’s going to be incredibly important going forward.

LL: You certainly won’t get it from the bank.

KS: Even in a buy and hold strategy, there’s some active research going in to create the portfolios that do that.  So, I think true active, new active, I think is a huge opportunity and I think that’s very different from active versus passive and this idea that alpha is better than beta.  Actually, this is about building portfolios that help people’s lives.

LL: It’s interesting, one of my colleagues had one of the Citywire virtual events just an hour ago with six chief investment officers in Switzerland and in Germany and one of the themes that they believe in is what they call the ‘fightback of the active manager’.  They think there’s a number of funds, number of managers, contrarian managers, even in US equity who have protected capital well. So, this could be, I’m not saying we’re looking for silver linings, but this could be a period where active asset management can actually show its metal.

KS: Yes, I hope so.  I think part of active asset management is for sure, about the delivery of return to the end-client, but it’s also about the way in which we allocate capital to companies so they can create wealth, generate employment, revive economic activity.  So, I think active management, in terms of the generation of return is really important, but we as an industry should be at the heart of making sure that we take those savings, turn them into investments that help fund recovery as and when the time comes.

LL: I think that is very important.  Even before any of this happened, there was a growing evolution towards socially responsible investing or ESG and I think in some ways, this is just exacerbated that.  Truly active asset management has a real societal role to play in, as you say, sensible allocation of capital for good.

KS: Yes, and acting responsible.  So, I do wonder myself, whether that language about ESG will start to erode and we’ll all talk about responsible investing because we are all in this together.

LL: I like responsible investing because the problem with ESG is everyone tries to measure it in precise data and to some extent, you know what responsible is, it’s a common sense concept.

KS: Yes, doing the right thing.

LL: Just as a summation now, let’s try and incapsulate it because you’ve covered a lot of ground and it’s really been very interesting and I’m grateful for the time that you’ve given up for this.  In terms of the recovery, at the beginning of all this, the management team of Citywire was talking about a V-shaped recovery, a sharp V-shaped recovery, but it sounds like that’s no longer on the agenda.  That we’re going to have to endure a much longer period of time before things return to some kind of normality.  Can you just do a 30 second summary that incapsulates that for me, please?

KS: I think that the virus has taken a hold a lot stronger than we think.  The government reaction means that’s dampened economic activity.  So, I think the recession is going to be a lot deeper than people have thought.  That’s caused dislocation in financial markets.  I think a great deal of that is in the price.  I think it’s too early to call the bottom, but if the virus is contained and if we continue with the same vein in policy responses, I think there will be a recovery and financial markets will recover with it.

LL: This year.

KS: I have been around too long to think I’m clever enough to know when that comes.

LL: Keith, thank you very much indeed.



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