Coronavirus: How will volatility affect financial services?
The boost in trading will benefit some, but IPO activity will wane, and the tumult will sort the strong active managers from the weak.
The boost in trading during the coronavirus will benefit some, but initial public offerings will wane, and the tumult will sort the strong active managers from the weak.
These are some of the findings contained in a Morningstar special report on the coronavirus, its effect on markets, and which stocks are worth looking it.
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While the Australian Bureau of Statistics expects more than 85 per cent of businesses to be hurt by the fallout from the virus, financial exchanges and data firms should be relatively stable,according to Morningstar analysts.
Earlier this month, the Australian corporate regulator put new limits on the number of shares trades large firms can make, as it struggled with a surge in stock market volumes.
Market data is an essential purchase for many financial services companies, and higher market volatility should boost trading activity in equities and derivatives, say analysts Greggory Warren, Johann Scholtz and Michael Wu.
However, they say the long-term impact is harder to gauge as a prolonged bear market may curb investors' risk appetite and turnover and liquidity may stagnate despite a recovery.
Year-to-Date Performance of Banks and Credit Services
For companies with material trading revenue such as investment banks and retail brokerages, any benefit will be offset by a decline in other portions of their business, according to Warren, Scholtz and Wu.
They also expect fewer company floats as the volatility bites. This is turn will affect equity underwriting and the advice market for merger and acquisitions.
“Restructuring advisory will improve in a recession, but it won't be enough to offset mergers and acquisitions advisory, which will likely be subdued until corporate executives gain more confidence in the economic outlook.”
Retail brokerages too will see more clients but a boost in revenue will be eroded by a fall in net interest income because of cuts to interest rates.
Insurers too will feel the pinch as declining investment income and unusual liabilities associated with business disruption emerge.
To gauge the possible effect on active asset managers, Warren, Scholtz and Wu draw a parallel with the 2008-09 global financial crisis. This downturn lasted for 16 months, and the stock market recovered after 37 months, in March 2012.
“If this bear market follows the same course as the 2008-09 financial crisis, then active asset managers with heavier exposures to money market funds and fixed-income will see some benefit as investors park capital in perceived safe havens (with bond funds benefitting from both inflows and market gains as bond prices rise in response to reduced rates and investor rotation into fixed income).
“As for those with heavier active equity exposures, we're likely to see the one-two hit of a decline in asset-based fees with the stock market rout, as well as net outflows from investors seeking safety.”
The coronavirus is also expected to be a survival of the fittest for active and passive managers.
“Increased volatility will also prove the strong active managers from the weak, and a test whether active equity management can truly outperform during a downturn,” the Morningstar analysts say.
“If they do outperform, we would only expect to see a modest improvement in organic growth as investors generally need to be convinced that it is sustainable.
“Passive equity managers are likely to suffer more from market losses than net outflows, but redemptions could accelerate if the market continues to be volatile and falls further from here.”