Market Insights – March 9, 2020

Each week, a team of experts shares its market views with you.

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Essentials

The US employment market is still buoyant, with more than 270,000 new jobs added in February – far more than expected. The coronavirus outbreak has not yet dented US business confidence. Provided it’s short-lived, the epidemic shouldn’t cause US unemployment to rise.

Manufacturing orders and output in Germany picked up sharply in January, outstripping the consensus and more than making up for the December decline. These data show that the German economy was starting to recover before the epidemic took hold in Europe.  

After more than three years, the alliance between Opec and Russia has broken down. Both sides will now do what they can to hold onto their market share, and prices will suffer the consequences. The most vulnerable producers (especially US shale oil operators) will be hit hardest by the decline in oil prices.

Central banks to the rescue?

The financial markets continued to be rocked by the coronavirus outbreak, which is still spreading across the globe. Asian markets started to bounce back last week, after the number of new cases in China passed its peak. But the Italian government’s decision to quarantine the north of the country – the region that drives Italy’s economy – quickly reminded investors that the outbreak will have a harsh economic impact on heavily affected countries. In this uncertain climate, talks at a routine Opec meeting (which included Russia) last week broke down, paving the way for output to soar in the coming months. This caused oil prices to nosedive early this week, which adds to the prevailing uncertainty. But a sharp drop in energy prices should provide a boost to the global economy once the worst of the epidemic is behind us, which should be in the next couple of weeks or months. At this point, investors remain concerned about the impact that the plunge in oil prices could have on the bond market, especially the US market, which is where shale gas producers get most of their funding. This bond-market contagion leads us to believe that central banks will step up their interventions in the coming days and weeks. The European Central Bank (ECB) should announce new measures to shore up the eurozone economy at its meeting on Thursday. And the US Federal Reserve announced an emergency rate cut of 0.50% last week. The spike in market volatility could prompt the Fed to lower rates even further at its official meeting next week – or act even earlier if it feels the need to pump more money into the financial system. Other central banks could well join these stimulus efforts in order to provide a coordinated response and prevent a global recession. Investors will be awaiting central banks’ next moves, especially since the plunge in oil prices could push inflation even lower. Given this climate and the extreme pessimism being recorded by sentiment indicators, we still think that the stock markets are oversold in the short term and that we shouldn’t reduce our equity exposure based on current price levels. However, we do recommend strengthening exposure to the Swiss franc in CHF-denominated portfolios by fully hedging the euro exposure. The SNB is struggling to keep a lid on its domestic currency, and its job will only get harder if the ECB announces large-scale measures this week.

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It took only a few days for the markets to go from complacently viewing the epidemic as a temporary event to reaching a state of panic. The outbreak is still spreading quickly across Europe, but China appears to have discreetly turned the corner in its battle against the virus. The latest numbers show that the number of patients who have recovered from the disease is now higher than the number of currently infected patients. The full extent of the outbreak was obscured until now by the draconian isolation measures put in place right after the Chinese New Year holiday. Economic activity has picked up more slowly than expected, as we see in the purchasing managers’ indexes published this past weekend. The manufacturing PMI dropped from 50 in January to 35.7 in February, the sharpest contraction ever recorded. That’s not surprising, however, since the economy came to a standstill for most of February, although it should start to pick back up in March. High frequency economic indicators have been flashing green for the past week, including the number of visits to shopping centres and the manufacturing capacity utilisation rate, which is now back above 50%.

When it comes to predicting how other infected regions will fare, the pattern by which the infection rate is stabilising in China could be a better guide than the SARS virus, although the effectiveness of the containment measures and the population density are not fully comparable. The speed at which the virus is spreading in South Korea and Italy is certainly worrying, but last week’s correction made clear that the outbreak is truly being taken seriously. At this point, the greatest threat is fear. We just need to keep in mind that, once the panic recedes, the markets will quickly move on.

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