A second week of amazing volatility in world markets, as investors try and incorporate the news flow on COVID-19 into their spreadsheets. The US Federal Reserve (Fed) delivered an emergency interest rate cut on Wednesday, which did not calm markets down and instead fielded the expectation of yet more future cuts. President Trump signed a US$7.8bn emergency coronavirus spending bill on Friday, but the US seems to be lagging other countries in terms of its preparedness against the virus, with a very limited use of testing kits, isolation and curtailing of daily social activities.
Over the weekend, the failure of OPEC and Russia to agree on oil output cuts dealt a devastating blow to crude prices, with drops of 25% this morning.
At the end of the week, equities were down but not as much as the volatility would lead us to believe. The US dollar fell by 2% with the euro and yen rising sharply. Oil prices are now in the US$30s. On the rising side government bonds soared as yield fell to all-time lows (by yesterday) in the US (0.76%), UK (0.24%) and Germany (-0.71%). Gold again surged as the ultimate risk-off investment. This morning, government bond yields have slumped further with US 10-year treasuries at 0.43% on the oil price news.
Within the equity world, the US and emerging markets tended to be flat to positive whereas Europe, the UK and Japan bore the brunt of the selling. Within the UK, small and mid caps lagged large caps.
The weekend oil crisis is already having an impact on equities this morning with significant drops expected.
The week ahead
Wednesday: the UK Budget
Our thoughts: will they, won’t they? Is it on, is it off? The political machinations in the Treasury department over the past month have created a fair amount of uncertainty over what the government intends to do with the public finances. With climate change high on the political agenda it looks increasingly like the new Chancellor will end the freeze on fuel duty, with the £2.4bn diesel subsidy first on the chopping block. The high street is in desperate need of a boost as the sharp knife of e-commerce continues to generate bleeding. It’s possible that reforms to business rates are pushed through, designed to provide some support. In the new post-Brexit UK, there may also be the opportunity to raise stamp duty on property for overseas buyers, which could have a significant impact on the property market in time.
Thursday: ECB Monetary Policy Meeting
Our thoughts: with central bank activity at elevated levels currently, following the emergency interest rate cut by the US Federal Reserve last week, the European Central Bank is under pressure to follow suit. Of course, the problem in Europe is that deposit rates for banks are already negative and it is not clear that turning them more negative would provide any sort of boost. Perhaps of more importance is the signal that a rate cut would send, letting financial market intermediaries know that the ECB stands ready to support the system as and when the outlook deteriorates. Cutting interest rates is arguably a blunt tool in fighting the spread of COVID-19 and this point will be highly debated at the meeting. At the same time, if central banks are engaging in co-ordinated action, then the ECB may have no option but to cut interest rates.
Friday: University of Michigan Consumer Sentiment (February)
Our thoughts: with financial markets pricing in a negative outlook for businesses in the new COVID-19 world, it will be interesting to see if consumers have struck the same negative tone. The University of Michigan Consumer Sentiment Index is comprised of measures of attitudes that determine a consumer’s willingness to buy and predict subsequent expenditures. The US consumer has been particularly healthy for the past few years – cheap borrowing rates and a healthy labour market have been supportive. The question investors will be asking themselves is whether consumer confidence has evaporated because fear and panic has taken hold. If the data release shows a big fall, we would expect markets to react accordingly.
The numbers for the week
Are central bank rate cuts helping?
On Wednesday, the US Federal Reserve (Fed) delivered a 50 basis point (0.5%) emergency rate cut outside of its regular meeting schedule. The markets were not impressed by that cut and proceeded to fall afterwards. The expectation in the market now is for another 3-4 cuts by year-end, even after this rate reduction, bringing down Fed fund rates close to the zero level.
Other central banks are also expected to reduce rates, if they have the ability, with the European Central Bank (ECB) expected to cut by 10 bps and the Bank of England expected to cut by 25 bps as early as this month.
US economic numbers doing very well before any virus impact
Surveys: The ISM manufacturing index fell from 50.9 to 50.1 and the Markit manufacturing PMI from 50.8 to 50.7. The problem is that PMI reports close out round 22nd-23rd and are thus not fully representative of the recent virus impact. New orders fell below 50 to 49.8 from 52.0. The Markit US services PMI was unchanged at 49.4, but the more reactive ISM non-manufacturing index rose from 55.5 to 57.3.
Housing: MBA mortgage applications up 15.1% for the week. The series has been very positive for some time now thanks to lower mortgage rates.
Growth factors: Non-farm productivity down from 1.4% to 1.2% with unit labour costs down more from 1.4% to 0.9%. The difference is now positive.
Real economy: Factory orders down 0.5% in January, vs. +1.9% previously. Durable goods orders were down 0.2% unchanged from the previous month, ex transportation rising 0.8%, down from 0.9%.
Employment: Initial jobless claims settled at 216K vs. 219K the previous week and continuing claims were almost unchanged at 1729K vs. 1722K. The employment report for February looked very strong, but it was collected round 12 February and hence shows the situation pre-virus. Non-farm payrolls rose 273K in February, way above expectations and last month’s number was revised upwards from 225K to 273K as well. Private payrolls led at 228K, and the perennial loser, manufacturing payroll, was actually up 15K. Average hourly earnings were slightly lower, at 3.0% year on year vs. 3.1% the prior month and the labour force participation rate was unchanged at 63.4%. The unemployment rate (U3) eased from 3.6% to 3.5% and the underemployment rate (U6) edged up from 6.9% to 7.0%
Autos and trade: Total vehicle sales were unchanged. The US trade balance shrank a little from US$48.6bn deficit to US$45.3bn.
Credit and construction doing well,
Credit and liquidity: Consumer credit rose 6.1% year-on-year, unchanged from the previous reading. Net lending on dwellings was down from £4.4bn to £4bn but mortgage approvals rose from 67.9K to 70.9K. M4 money supply was up from 3.8% to 4.7%.
Surveys: The Markit/CIPS construction PMI rose sharply from 48.4 to 52.6 in February. The Markit/CIPS UK services PMI was almost unchanged at 53.2 vs. 53.3.
Autos: New car registrations are down 2.9% year-on-year in February, better than the -7.3% in January.
No major impact on manufacturing or services yet.
Surveys: The German manufacturing PMI rose from 47.8 to 48.0, France went from 49.7 to 49.8, Italy from 48.9 to 48.7 and Spain was stronger at 50.4 vs. 48.5. For the eurozone as a whole the number was stable at 49.2 vs. 49.1. The eurozone services PMIs were mixed: Spain at 52.1 vs. 52.3, Italy from 51.4 to 52.1, France from 52.6 to 52.5, Germany from 53.3 to 52.5. The German Markit construction index was up from 54.9 to 55.8.
Inflation: The January eurozone PPI (producer price index) clocked at -0.5% year-on-year vs. -0.6% previously, the core CPI (consumer price index) was up from 1.1% to 1.2%, with the headline CPI down from 1.4% to 1.2%, so core and headline have converged.
Jobs and sales: the eurozone unemployment rate was unchanged at 7.4%. Eurozone retail sales rose 1.7% year-on-year, unchanged from last month.
Industry: German factory orders rose 5.5% in Germany, of course pre-virus, vs. -2.1% in December. Year-on-year they’re still down 1.4%, which is an improvement from -8.9%.
The Japanese economy was already depressed pre virus. China surveys took a big dive.
China: the Caixin services PMI collapsed from 51.8 to 26.5 (in line with the official PMI at 29.6). Chinese foreign exchange reserves fell marginally from US$3,115bn to US$3,106bn as both exports and imports slumped (17% and 4% year-on year).
Japan: Japanese money supply rose. The monetary base increased from 2.9% to 3.6%. The consumer confidence index fell from 39.1 to 38.4.
The Jibun Bank services PMI was almost unchanged at 46.8 vs. 46.7. The consumer confidence index fell from 39.1 to 38.4. Labour cash earnings were up 1.5% in January. Household spending was down 3.9% year-on-year vs. 4.8% the previous month.
Talks between OPEC and Russia on oil output went on for most of the week and the possibility of a 1.2 million bbl/day cut was mooted. This morning the news of the collapse of the talks has led to a massive sell-off in oil price futures, as the Saudi-Russia alliance is seen to be crumbling. Industrial metals have been more defensive than energy, but gold was the star investment, up another 5% over the week.