Investors are deluding themselves about the how severe the coronavirus outbreak will be. Despite Monday’s severe sell-off in equity markets, the worst is yet to come.
Until this week, the market reaction to the virus has been mild — after a dip in late January, US and global equities rallied to new highs. This complacency was based on a number of flawed assumptions.
First, that the epidemic would be contained mostly to China, rather than becoming a global pandemic. Second, that it would be contained and peak before the end of the first quarter, thus limiting the economic damage to China and the global economy. Third, that the growth path would be V-shaped, with a strong rebound in the second quarter and beyond. Fourth, that policymakers — both monetary and fiscal — would take strong early actions to support economies and markets, if things were to weaken significantly.