How Pandemics Impact the Financial Markets - A Quantitative Analysis

1. How Pandemics Impact Financial Markets: A Quantitative Analysis

2. Introductions Ishan Shah AVP, Content & Research at QuantInsti Ishan Shah is AVP and leads the content & research team at Quantra by QuantInsti. Prior to that, he worked with Barclays in the Global Markets team & with Bank of America Merrill Lynch. He has a rich experience in ﬁnancial markets spanning across various asset classes in different roles. Aditya Gupta Product Specialist, Quantra Aditya has 4+ years of experience in trading various derivative products across multiple asset classes and exchanges in the world. He has also worked to advocate the importance of ﬁnancial literacy. In his current role at Quantra, he guides budding-quants to enter into the domain of algorithmic trading.

3. About QuantInsti Team We are a group of traders, coders, analysts who love to teach and share their experience. QuantInsti was started by iRage, India’s largest HFT ﬁrm. Mission To bridge the gap between theory and practice in Algorithmic Trading. Vision All retail investors use Quant & Algorithmic trading by upskilling themselves and by simplifying technology.

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5. Risk velocity is elevated in today’s markets compared to 10 years ago. The social-media driven news cycle, the interconnectedness of global supply chains and a pricey stock market, make Wall Street more vulnerable to a black swan. Seema Shah, chief strategist at Principal Global Investors COVID-19 Impact

6. News Everywhere or Expected ● Business closures and manufacturing plant shutdowns ● Job losses and increase in unemployment rate ● Supply chain disruption ● Shortages of daily essentials ● Pressure on healthcare systems ● Exponentially rising infection and death tolls ● And many more...

7. COVID19: Impact on Financial Markets Nov 17, 2019: The ﬁrst case of COVID19 Jan 30, 2020: WHO declares “Public Health Emergency” Mar 11, 2020: WHO declared pandemic

8. COVID19: Impact on Financial Markets

9. COVID19: Drawdowns Maximum drawdowns Crude Oil - 67.07% SP500 - 33.92% Gold -11.80% TLT -15.72%

10. COVID19: Relationship between TLT, Gold and Crude Oil with SP500

11. COVID19: Sectoral Performance

12. Questions, we all have When will it end? How will it end? Will markets fall more from here? And how it will move from here? Should I buy Gold as safe haven? How should my portfolio look like? It is so contagious, will everyone get affected by it? How the earnings will be impacted and which sector will be impacted the most?

13. "Those who do not remember the past are condemned to repeat it." ~ George Santayana Past Pandemics

14. Source: 1. Weforum 2. Wikipedia Name Start End Type / Pre-human host Death toll Antonine Plague 0165 0180 Believed to be either smallpox or measles 5 million Japanese smallpox epidemic 0735 0737 Variola major virus 1 million Plague of Justinian 0541 0542 Yersinia pestis bacteria / Rats, fleas 40 million Black Death 1347 1351 Yersinia pestis bacteria / Rats, fleas 200 million New World Smallpox Outbreak 1520 1979 Variola major virus 56 million Great Plague of London 1665 1665 Yersinia pestis bacteria / Rats, fleas 100,000 Italian plague 1629 1631 Yersinia pestis bacteria / Rats, fleas 1 million Cholera Pandemics 1-6 1817 1923 V. cholerae bacteria 1 million Third Plague 1885 1885 Yersinia pestis bacteria / Rats, fleas 12 million Yellow Fever 1890 1990 Virus / Mosquitoes 125,000 Russian Flu 1889 1890 Believed to be H2N2 (avian origin) 1 million Spanish Flu 1918 1919 H1N1 virus / Pigs 50 million Asian Flu 1957 1958 H2N2 virus 1 - 4 million Hong Kong Flu 1968 1970 H3N2 virus 1 - 4 million HIV/AIDS 1981 - Virus / Chimpanzees 30 million Swine Flu 2009 2010 H1N1 virus / Pigs 200,000 SARS 2002 2003 Coronavirus / Bats, Civets 770 Ebola 2014 2016 Ebolavirus / Wild animals 11,000 MERS 2015 - Coronavirus / Bats, camels 850 COVID-19 2019 - Coronavirus – Unknown (possibly pangolins) 30,000 Epidemics have affected humanity since many centuries Any trend which you can identify and fundamental reason for it? Pandemics Death Tolls

15. The practice of quarantine began during the 14th century, in an effort to protect coastal cities from plague epidemics. Cautious port authorities required ships arriving in Venice from infected ports to sit at anchor for 40 days before landing — the origin of the word quarantine from the Italian “quaranta giorni”, or 40 days. How contagious is COVID-19 compared to others?

16. Measles tops the list It can infect 16 people in an unvaccinated population COVID19: 2.5 Why the number of cases are growing “exponential”? Spread of Diseases Source: 1. Weforum 2. Wikipedia

17. Past performance is the best predictor of success Jim Simons How will COVID-19 end?

18. Scenario 1: Strict measures contains coronavirus

19. SARS SARS started in southern China in late 2002. It was brought under control by stringent and old-school public health measures such as isolation, quarantine and contact tracing. 8437 people were infected. There's currently no cure for SARS. The early days of severe acute respiratory syndrome (SARS) were pretty scary a fatality rate of about 10 percent and no drugs shown to be effective against it. But cases of coronavirus will be harder to catch and isolate compared to SARS Date Days Key Event 16-Nov-2002 0 The ﬁrst case of atypical pneumonia is reported in the Guangdong province in southern China. 26-Mar-2003 130 Possible Health Emergency 5-Jul-2003 231 WHO declares that SARS outbreaks have been contained worldwide, but calls for continued vigilance

20. Objective: Flatten the Curve

21. SARS: Flatten the Curve

22. SARS: Impact on Financial Markets

23. SARS: Performance During the Outbreak

24. SARS: Drawdowns

25. SARS: Relationship of SP500 with TLT, Gold and Crude Oil

26. SARS: Performance during and after the Outbreak Maximum Drawdown Crude Oil -33.28% SP500 -14.71% Gold -15.17% TLT -6.41%

27. SARS: Returns

28. SARS: Sector Performance Source: JPMorgan

29. Scenario 2: Spreads Widely

30. Pandemics in Percentage of World Population Name Date World population Reproduction rate Infected (est.) Percentage of World Population infected Deaths worldwide Percentage of World Population Pandemic severity Spanish flu 1918–20 1.80 billion 1.8 >1 billion 56% 50 million 2.8% 5 Asian flu 1957–58 2.90 billion 1.65 >500 million 17% 1-4 million 0.1% 2 Hong Kong flu 1968–69 3.53 billion 1.8 >500 million 14% 1-4 million 0.1% 2 Swine flu 2009–10 6.85 billion 1.46 0.7–1.4 billion 11%-21% 0.2 million 0.003% 1 COVID19* 2019–20 7.75 billion 2.5 0.95 million 0.01% 48 thousands ongoing 1 *Data as of April 1, 2020

31. Swine Flu Swine flu was declared pandemic by WHO The early estimates of the fatality rate were very high The first year estimates in US: ● killed 12,469 people ● infected 60.8 million people A study estimated that Swine flu infected 11 to 21 percent of the global population Later the mortality rate was estimated to 0.001% to 0.007% of of the world’s population

32. Swine Flu: Timelines Date Days Key Event 15-Apr-2009 0 First human infection with new influenza A H1N1 virus detected in California. 25-Apr-2009 10 The World Health Organization (WHO) declared a public health emergency of international concern. 5-May-2009 20 Peak school dismissal day in the spring phase of the pandemic. 980 schools were dismissed, affecting 607,778 students. 11-Jun-2009 57 The World Health Organization (WHO) declared a pandemic 25-Jun-2009 71 CDC estimated at least 1 million cases of 2009 H1N1 influenza had occurred in the United States. 22-Jul-2009 98 Clinical trials testing the 2009 H1N1 flu vaccine began. 15-Sep-2009 153 The FDA announced its approval of four 2009 H1N1 influenza vaccines. 5-Oct-2009 173 First doses of H1N1 vaccine were given in the U.S. 23-Nov-2009 222 No school closures throughout United States; first time since 8/25/2009 1-Dec-2009 230 Results of trials conducted among adults were published in December, and the data indicated that the immune response among vaccinated adults was excellent 11-Aug-2010 483 WHO announced the end of 2009 H1N1 influenza pandemic.

33. Swine Flu: Daily Returns

34. Swine Flu: Performance During the Outbreak At that time, the U.S. was emerging from the 2008 ﬁnancial crisis and stocks were signiﬁcantly undervalued

35. Swine Flu: Drawdowns Maximum drawdowns Crude Oil -21.68% SP500 -16.00% Gold -13.56% TLT -14.37%

36. Swine Flu: Relationship of SP500 with TLT, Gold and Crude Oil

37. Swine Flu: Performance During and After the Outbreak Returns from ﬁrst date Crude Oil 73.62% SP500 42.20% Gold 29.89% TLT -10.46%

38. Swine Flu: Performance

39. Swine Flu: Sector Performance

40. Asian Flu February 1957: First identiﬁed in China June 1957: Spread to the United States January and February 1958: Second wave

41. Asian Flu: Drawdowns

42. Hong Kong Flu July 1968: First case Sep 1968: Spread to the United States It was highly contagious (Reproduction rate: 1.8) Within two weeks of its emergence 500,000 cases of illness had been reported Source: https://www.britannica.com/event/Hong-Kong-flu-of-1968

43. Hong Kong Flu: Drawdowns

44. Spanish Flu The 1918 Spanish ﬂu had a 2.8 percent fatality rate Half of the world’s population infected Killed an estimated 50 million people Spanish ﬂu was more prone in young and old population Coronavirus has proven deadly to the elderly

45. Spanish Flu: Market Performance (DJI) DJI was relatively unaffected The war had a larger impact and already factored in The worst wave of ﬂu occurred at the end of World War I Source: macrotrend

46. World War II (1939 to 1945): Performance

47. World War II (1939 to 1945): Drawdowns

48. Summary SP500 Pandemic Maximum Drawdowns Returns after 6 months Returns after a year WWII -43.45% 8.40% -3.27% Hong Kong Flu -36.06% -1.39% -6.24% COVID19 -33.92% - - Asian Flu -20.65% -15.68% -4.61% Swine Flu -15.99% 25.89% 38.04% SARS -14.71% 16.02% 27.50% EBOLA -12.35% 5.96% 8.93%

49. Factor investing is an investment approach that involves targeting speciﬁc drivers of return across asset classes. Performance of Factor Investing

50. Will momentum and low volatility continue to outperform? Will small cap stocks never recover? COVID19: Factor Performance Source: van Vliet, Pim and Baltussen, Guido, Equity Styles and the Spanish Flu (March 30, 2020). Available at SSRN: https://ssrn.com/abstract=3564688

51. WWI and Spanish Flu: Factor Performance Source: van Vliet, Pim and Baltussen, Guido, Equity Styles and the Spanish Flu (March 30, 2020). Available at SSRN: https://ssrn.com/abstract=3564688

52. Market Correction in Pre-1926 Period: Factor Performance Source: van Vliet, Pim and Baltussen, Guido, Equity Styles and the Spanish Flu (March 30, 2020). Available at SSRN: https://ssrn.com/abstract=3564688 https://en.wikipedia.org/wiki/Panic_of_1907 A multi-factor ‘conservative’ strategy following Blitz and Van Vliet (2018), in which volatility, momentum and yield are combined in one strategy (‘LowVol+)

53. Research on pandemics by Hackett Financial shows that most major viral outbreaks, such as the Great Plague of 1665 and the Spanish ﬂu a little over a century ago, played out within 3 months. In other words, those bad events came and went mainly within 12 weeks. How long will it last?

54. When will this end? Date Days Key Event 11-Jun-2009 57 The World Health Organization (WHO) declared a pandemic 5-Oct-2009 173 First doses of H1N1 vaccine were given in the U.S. Date Days Key Event 26-Mar-2003 130 Possible Health Emergency 5-Jul-2003 231 WHO declares that SARS outbreaks have been contained worldwide, but calls for continued vigilance Swine Flu: 116 days SARS: 101 days

55. Importance of Social Distancing https://api-nationalgeographic-com.cdn.ampproject.org/c/s/api.nationalgeographic.com/distribution/public/amp/history/2020/03/how-cities-ﬂattened-curve-1918-spanish-ﬂu-pandemic-coron avirus

56. How to protect your portfolio? Hedge: iShares 20+ Year Treasury Bond ETF (Ticker: TLT) Reasons: This has shown negative correlation with SP500 during swine ﬂu Multifactor portfolio Avoid Commodity: Crude Oil Reasons: IMF has forecasted recession in 2020 and demand for oil will reduce, the price of crude oil could continue to fall. Disclaimer: You should consult with ﬁnancial advisor before adopting any of the recommendations Source: https://abcnews.go.com/US/wireStory/imf-head-global-economy-now-recession-69843184

57. Appendix

58. Comparison with other crash

59. Source and References 1. Britannica 2. CDC 3. World Health Organization: WHO 4. Yahoo ﬁnance 5. Financial Times 6. World Economic Forums 7. Medicinenet 8. Source code 9. Wikipedia 10. JPMorgan 11. Howard Marks Memos 12. NCBI

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