Bleak Outlook, As Economic Deterioration Hits Home

While it is hard to keep up with the ever-changing news flow, the weekend narrative has largely focused on the expected economic damage the COVID-19 virus will inflict.

Concerns are clearly mounting as economic deterioration hits home this week, especially where the data will most clearly show the virus’ impacts such as in job layoffs.

Reported corona virus cases in the US 19th March 2020

The weekly US jobless claims have largely been irrelevant as a market driver for some years. But this Thursday they will become a showcase of the global labour market and the spike in claims (consensus 1.5m claims) should bring the reality home.

The fact St Louis Fed President James Bullard has suggested this morning that the US jobless rate could push to 30% will do little to ease worries.

Just reading sentiment on social media, it feels like there is no one feeling risk has any hope at all and the general feeling now is that rallies are to be sold. I can’t disagree with this call as the downside risk is clearly there. And it seems traders are less interested in stimulus and more the case curve as their primary guide.

If we take Friday’s trade as our guide, those expecting further downside in risk will have seen the S&P 500 closing down 4.3%, and firmly below the December 2018 low of 2346, with futures down a further 0.7% after the cash close.

High yield credit continues to be central to the risk story and needs to be on the radar, where we see HY credit spreads (vs USTs) blowing up a further 47bp to sit above 1000bp. The 12.7% decline in crude is also clearly not helping matters. Until we see credit start to be back under control then it’s hard to suggest we are near the bottom in the equity story.

We also saw buying in treasuries, which suggests the liquidation we saw on Thursday in the bond market has reversed, with UST 5s closing -23bp and with l0s -30bp, resulting in a massive flattening of the curve.

‘Real’ (or inflation-adjusted) yields were crushed -5 lbp in 5-year, which I guess is a positive for equities and credit, but we need real yields to turn deeply negative again to offer any support.

It was positive to see FX basis and USD funding coming in substantially in EUR/USD and USD/JPY, which has helped curb the USD move, with the USD index closing unchanged. That is a different story today, as its all USD buyers again.

AUD/USD cross-currency swaps did blow out to the highest levels ever and it’s not hard to see why traders lent against 0.5988 causing a decent sell-off into the 0.5802, although much of that had to do with the bleed into the close in the S&P 500. We saw small buyers in the AUD crosses initially, but it’s all sellers here with S&P 500 futures opening limit down and it feels like we head lower in AUD/JPY.

It seems unlikely that we see any positive reaction to the Morrison $66b stimulus announced yesterday, but it is a cross I will be watching in the early Asia trading hours.

We’re seeing strong sellers of NZD this morning, with the RBNZ detailing they are starting a NZ$30b QE program and NZD/USD is getting a good working over.

European equities traded well (the DAX closed +3.7%) and closed out a solid week of outperformance on a relative basis, but the open later today will not be as positive, as will be the case in Asia.

Headlines of Germany expanding its 2020 budget coincides with news they are to massively increase debt issuance by some E350b. This should offer the ECB an increased pool of bonds to purchase as part of its QE program. That said, it’s too hard to buy the Italian MIB or DAX outright, especially when we see headlines of 651 deaths, it’s hard to say the worst is behind us.

In this environment, it’s too hard to be long an index outright and would rather buy as part of a long/short idea.

Where the trigger for outright longs comes when we get a sense that we are seeing evidence of the case count curve plateauing and about to flatten out. We’re not seeing that yet, but when it comes the buyers will come in… this is also true in the US, where despite moves from the Fed and various fiscal measures, the trigger and green light to buy, at least for more than an intra-day trade, is the case curve.

A flatter curve equates to buying risk and with the US case count pushing to 32,356 and a truly worrying 8149 new cases on the day, subsequently, we’re not there yet by any means.

Corona Virus Country Numbers 23rd March 2020

The feeling on the floor was that there was already an elevated risk since the S&P 500 futures traded limit down at some stages today. Given just how dire sentiment is, traders are continuing to closely watch headlines on Congress finalising the Phase 3 fiscal bill.


The Senate needs to get this through ASAP and pass it to the House. The fiscal bill will be far bigger than this anyhow, by the time we are seeing a recovery.

That said, the news flow is incredibly fluid, with a lot of attention on the fact UST Secretary Mnuchin has talked about working with the Federal Reserve to leverage up to $4 trillion of liquidity to support the economy. That is obviously an incredible amount of capital to deploy over a single quarter.

Coronavirus aid bill includes $3,000 for families, $4 trillion liquidity for Fed: Mnuchin

The Fed will have to do more too. And despite the central bank buying some $100b in bonds on Friday alone, the run-rate will keep heading higher from here. Discussion about calming the corporate bond market will only intensify.

Talk of closing equity markets is still in play, but this makes little sense to me in a world where we are already seeing incredible dislocation in asset classes, and if I can’t hedge my equity risk I’ll sell AUD/JPY, which just distorts things even more.



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