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So what's to say about the possible pandemic that isn't already said?

Maybe this: You may think that the market reaction in January was surprisingly subdued, but there is actually a very good reason for it, and it's not just the experience that previous scares like SARS and the swine flu have faded away without leaving too much of a trace.

In fact, there is a logical reason why the financial markets would keep calm and carry on, and more so this time than on previous occasions. It's called interest rates.

Recall that the value of a stock is, at least ideally, the present value of all future profits available to shareholders. Falling interest rates and hence falling discount rates increase present values, but that's not the whole story. They also reduce the importance of the near future.

For the sake of argument, imagine you expect a stock to deliver profits for 100 years (beyond which you add next to nothing to the present value), growing at 5 per cent a year. If, say, you reduce your discount rate from 8 per cent to 6 per cent, the importance of the first year halves. In the latter case, the first year's profits account for no more than 1,5 per cent of the total present value.

The figure would be higher for less patient investors with higher discount rates, but the dynamics would be the same – lower interest rates reduce the financial significance of the immediate future.

Now, pandemics don't last a century. They flare up and peter out within a decidedly short-term perspective for a sensible investor, meaning they might destroy short-term profits. So, when the short-term profits account for less due to lower interest rates, investors are less concerned about the spread of the coronavirus – as cynical as that may sound.

Still not convinced? Ever wondered why volatility has fallen over the last decade?

Well, that's exactly what you would expect, given the direction of the interest rates. Short-term events simply take on less significance.

 

 

Historical returns are no guarantee for future returns. Future returns will depend, inter alia, on, market developments, the portfolio manager's skill, the fund's risk profile, as well as fees for subscription, management and redemption. Returns may become negative as a result of negative price developments.

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