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Coronavirus sends markets plummeting – but mispricing offers alpha opportunities

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With global markets in freefall on the back of coronavirus fears, BlueBay Asset Management recommends curbing risk levels for now – but suggests alpha opportunities will arise from this week’s market mayhem.

The bedlam continued on Friday as both the S&P500 and FTSE 100 lost another 2.8 per cent during early trading, with the Nikkei 225 and DAX both down more than 3 per cent.  FX markets also slumped this week following heightened fears over the rapid spread of Covid-19, as gold surged to a seven-year high, and the price of a barrel of Brent Crude oil dropped to USD50.

Travel, energy, shipping, leisure, retail and entertainment stocks all took a hefty kicking from investors, who are offloading positions deemed most exposed to the outbreak, while high-yield and emerging market debt markets also faced a sharp squeeze amid the upheaval.

Mark Dowding, BlueBay’s chief investment officer, said in a note on Friday morning that uncertainty will continue to reign across most asset classes, adding that “keeping risk levels low remains prudent, in our view”.

“The reality is that in the current phase, fear in itself is enough to create a negative economic shock on a global basis,” Dowding observed, noting the across-the-board tumbling government bond yields, weaker equity markets and wider credit spreads.

“For the time being, fear has replaced greed and should virus fear continue to grow in the next few weeks, it may be difficult to project how this will turn much better in the short term – even if a normalisation of activity in China should add some reassurance.”

BlueBay believes that the point of “maximum bearishness” may come in the next few weeks, likely coinciding with an official declaration of a pandemic by the WHO.

“For now, there is a sense with the coronavirus that things will need to get worse before they can get better.”

But he added that the market ruptures may lead to mispricing opportunities and anomalies within certain sectors – with the prevailing environment ultimately leading to potential alpha opportunities for hedge funds as the dust settles.

“We would observe that in a supply shock combined with a demand shock, it may be wrong to automatically extrapolate lower inflation. Rather, some prices may rise, due to scarcity, as others fall.”

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