In 2020, an economic crisis superimposed by COVID-19 broke out across the world. The US stock market melted down four times. The crude oil prices plummeted. And the global economy is facing greater uncertainties. At the crossroads of globalization, how should we respond to the recession, as a country, a business or an individual?

On the afternoon of April 18th, Dr. Jun Lu, DBA and Associate Professor of Finance at emlyon business school was invited by emlyon GDBA Air Forum and Intake 2020 Information Session to share his insights on the "Turmoil and Changes in the Global Financial Market".  The lecture drilled down into the future trend of the global financial market and the responses of various countries in the context of COVID-19, followed by an exciting penal discussion of Dr. Lu, Mr. Chen Wu, Executive Editor-in-Chief of The Economist Global Business Review and Ms. Hailin Lou, Executive Director of Morgan Stanley Asset Investment, on "Chinese and Global Capital Markets under COVID-19" , sharing their cutting-edge insights and in-depth reflections.

Jun Lu: The financial crisis in 2020 superimposed by COVID-19 may trigger a global recession

This March, due to COVID-19, we experienced an extremely rare financial market turmoil, initiated by the oil price war between Saudi Arabia and Russia. As the two parties failed to reach an agreement in the negotiations on oil production reduction, Saudi Arabia unilaterally announced that it would increase its production in April, which triggered a price war.

As we all know, Saudi Arabia and Russia dominate oil exports, which play a decisive role in their finances. But Saudi Arabia’s price financial equilibrium is higher than that of Russia. If in a regular market environment, in order to achieve an equilibrium and keep oil prices high, such an agreement would be the most desirable to Saudi Arabia. However, given the pandemic, Saudi Arabia started the war, expecting the future economy will undergo a significant depression and recession for a long period of time. In order to compete for the stock market of crude oil, a pre-emptive strategy of sharp price cut was adopted to seize more market share. Therefore, shortly, the price plummeted from US$45/barrel to US$20/barrel, even below the cost of shale oil in USA.

Over the past decade, with the evolving globalization, the global financial system has shaped the intertwining complexity. US shale oil companies have been the key issuers of junk bonds and the price war has led to a massive sell-off in the US junk bond market, which resulted in increased volatility.

Under this circumstance, banks in various countries have decreased their exposure and the size of US dollar market-making, resulting in a shortage of US dollars and a liquidity crisis. Therefore, companies and individuals can only sell off assets to withdraw US dollars, which caused a further decline in asset prices. Meanwhile, the scarcity of US dollars also led to an increase in the spread of foreign currency swaps between US financial institutions and foreign banks, which reached a peak during the price war, so that the chain of foreign currency swaps was completely interrupted and foreign banks further reduced the size of market-making, which in turn increased the difficulty to borrow dollars. Ultimately, a spiral downward cycle was created.

The current liquidity crisis of US dollars also led to the sell-off of all kinds of assets, including the US stock market, which interrupted its 11-year-long bull market. Prior to this, US stocks had been always overvalued and a large number of listed companies were repurchasing stocks, which meant that these companies believed that there was no target worth investing in the market. When the shares are repurchased, they will be written off, resulting in an increase in the book earnings per share, but the results are not actually improved. In the end, it leads to a double hazard, that is, an illusory bull market and an increase in corporate leverage.

In addition to stock repos, the popularity of passively invested ETFs and quantitative strategies also triggered a sharp decline in US stocks. The higher the proportion of ETFs in the normal bull market, the lower the volatility of the entire market. However, when a major economic crisis occurs, it will lead to a substantial sell-off of component stocks and increase the market volatility. Furthermore, with the growing number of funds adopting quantitative strategies in recent years, their transactions have become homogenous, and when a crisis comes, they often sell at the same time, which will deteriorate both volatility and decline.

After the plummet in March, US stocks are still overvalued. In the past two major corrections of the US stock market, the total debt fell over 50% before the valley. Based on this experience, the current plunge is still far from the bottom. Combined with the impact of COVID-19 on the global economy, we have all the reasons not to be optimistic about the future trend of US stocks.

Compared with the financial crisis in 2008, the current event is more complex and more difficult to eliminate, which is a worldwide recession caused by the pandemic. Both supply and demand have experienced widespread stagnation, which will have a deeper impact on both businesses and families. To deal with the crisis, there are two macroeconomic means of monetary policy and fiscal policy, among which fiscal policy is more able to "fix the root cause", such as helping businesses and families weather the economic crisis through tax cuts and cash subsidies. However, the substantial government debts will also result in hidden credit risks, while the expansion of government power and functions will also induce political instability and conflict.

After the outbreak, de-globalization will inevitably occur. Each country will concentrate on production localization. Although it will reduce the efficiency of economic circulation to a certain extent, it will also minimize systemic risks. In addition, de-globalization will transform the incremental market in the era of globalization into the national stock markets, triggering the slowdown of economic development and the reduction of innovation capabilities, thereby further reducing the possibility of extensive economic growth brought about by technological revolution and elevating global instability.

Panel discussion: Independent thinking and life-long learning:  “Magic pills” for individuals and businesses against COVID-19

Q1 How much room is there for the current monetary policies? After widespread ease, how should the future monetary policy end?

Jun Lu: After the financial crisis in 2008, the Fed invented quantitative easing (QE), before the world entered an era of low interest rates. But long before the outbreak, the negative interest rate policy had lapsed. Many companies no longer borrowed. The base currency has been unable to continuously derive credit currency through credit, making the transmission mechanism of monetary policy ineffective. In the era of low or even negative interest rates, people did not borrow money to invest in reproduction, but instead invested in speculative assets, leading to roaring global asset prices and class inequality across the world. In 2016, there were two signs of de-globalization, Brexit and the fact that Trump came to power. Populism in the most developed economies sounded the alarm for us.

Q2 COVID-19 has brought great uncertainty to the world. What is the perception of investors?

Hailin Lou: Commercial real estate showed some weak fundamentals even before the outbreak. The retreat of foreign investments caused by the tension between USA and China has induced a decrease in demand. The pandemic has made many international investors cautious about investing in China. We still wait and see the impact of COVID-19 on various industries and the economy, but some highly leveraged businesses may have to sell off their assets, which will lead to good investment opportunities in the market.

Chen Wu: In 2018 and 2019, many believed that it hit the end of the cycle. COVID-19 has driven the end of the ultra-long cycle and exacerbated the exposure of certain problems.

Q3 Will the real estate cycle coincide with the economic cycle?

Hailin Lou: The real estate industry is highly finance related. With the aging of the population and the slowdown of the urbanization process, China’s real estate investors will be greatly challenged. However, some emerging sectors will emerge in the context of COVID-19, such as remote office and cloud computing, so some logistics centers and warehouses will be in enormous demand and investment strategies will be adjusted accordingly.

Q4 At the end of a cycle, how to price assets? Will volatility continue to increase? What asset prices will not rebound in the short term after the decline?

Jun Lu: There are three eternal bubbles in the world, namely US stocks, China’s real estate and Japanese debts. The greatest decline in this round occurred in the seemingly healthy U.S. stocks. In the past two years, China's real estate market has implemented housing and anti-speculation policies and property prices in many Tier 1 cities have stabilized. But since the Chinese real estate market carries too much assets and leverage of Chinese households, for the consumer real estate market, the Chinese government will use various policies and measures to prevent sharp ups and downs. For commercial real estate, there will be differentiation. The office buildings in Tier 1 and 2 cities will be in surplus, while specific projects such as logistics centers and data centers will see a growing demand.

In addition, if the economic recession and de-globalization continues, it will have a greater impact on some other assets, including stocks, real estate and crude oil markets in various countries. Some hedging assets, gold for instance, may show an upward curve.

Q5 In response to COVID-19, China relies more on infrastructures. Is it feasible to use traditional approaches to solve new problems? How will the general real estate market evolve?

Hailin Lou: The current infrastructures are new high-tech-oriented infrastructures instead of the traditional construction of roads and bridges, which can really upgrade productivity, such as 5G and AI.

Jun Lu: Without COVID-19, the Chinese government would continue to implement new infrastructures. But after the outbreak, the economic recession will cause extensive unemployment. Since new infrastructures cannot absorb sufficient employment, it may stick to traditional infrastructures to maintain employment rate. As to how the situation will develop, it is still difficult to say how much the impact is while we are in the process of continuous exploration.

Q6 How should individuals reflect and grow in the context of COVID-19?

Chen Wu: COVID-19 calls for antibody and immunization. In the process of communication between people, it is also important to create “antibodies” so as not to be affected by fake news and conspiracy theories. The information channel determines your vision and future achievements. In the future, personal skills are more important than cross-disciplinary perspectives for middle and senior managers. It is always beneficial to maintain curiosity and open mind to new things for the growth of both individuals and enterprises.

Jun Lu: In our daily life, we are exposed to all kinds of information and people unconsciously become impetuous. If your life slows down in the outbreak, this is actually a very good time for you to think and learn, and to continuously improve your cognition. The world after COVID-19 will definitely change, so we need to maintain a state of continuous and lifelong learning. We must maintain the ability to learn and think in response to the rapidly changing world.

Hailin Lou: It is critical to have the ability to think independently. When you see a message, you must learn to independently verify it, rather than immediately believe it, and authenticate things through common sense and logic.