Market turmoil continued on Friday, with US equities ending the week on a poor note and investors seeking the haven of the bond market, helped by the recent action of central banks. The NZD and AUD had another volatile session, trading ranges of more than 2 cents over the Friday night session and ending the week on a soft note, just above 0.57 and just below 0.58 respectively.
The spread of COVID-19 remains worrisome, with the WHO noting that the number of confirmed cases is accelerating. It took 3 months for the first 100,000 confirmed cases, 12 days for the second 100,000 cases and 4 days later we are now well over 300,000 cases. While the spread of the virus is looking well under control in China, other Asian countries have seen a spike in new cases, while it remains rampant across Europe and the US.
The market is coming around to the view that the economic impact of the virus will be devastating, with comparisons to the Great Depression now being openly debated. Spooking the market on Friday was that the Governors of many States across the US – composing more than one-third of the total US population – ordered citizens to stay at home for the foreseeable future and allowing only essential services to continue to run.
Goldman Sachs warned that the US economy might shrink 24% on an annualised basis in Q2, indicative of the cliff edge-like plunge in economic activity. Further evidence of this shape of the recession was provided after the close when United Airlines said it planned to cut international flight capacity by 95%.
Policy makers remain active with fresh measures to help offer some relief to the market, but there is a growing realisation that until the spread of the virus is beaten, it is too early to “buy the dip” in risk assets.
The US Federal Reserve expanded its emergency money market facility to include municipal securities, saving another sector of the market from implosion, and an area of the market that didn’t require saving during the GFC – indicative of how bad current market conditions are. By Friday morning, the Fed was already halfway through its $700bn bond-buying programme announced the previous weekend, indicating that probably much more will have to be added to its QE programme.
The Fed also moved from weekly to daily dollar funding operations which other central banks can tap into, which helped reduce the cost of accessing dollar funding (the EUR-USD 3-month basis swap reduced to almost zero from over minus 80bps earlier in the week.) The ECB offered further relief to banks, by offering flexibility on the treatment of non-performing loans.
Fiscal policy announcements continue to ramp up. The FT reports that Germany is planning a new €500bn bailout fund to rescue companies, which will include direct equity stakes and state guarantees to underwrite debts of companies affected by the turmoil, policies amounting to around 10% of GDP. Talks are being held in the US with a package in the vicinity of USD2 Tn (10% of GDP) expected to be announced soon. In the UK, the Chancellor offered a third emergency package, which will see workers whose jobs are at risk receiving up to 80% of their wages paid by the government. Australia’s government announced a second, larger fiscal package worth 2.5% of GDP. A number of other government support measures have been announced across the world but are too numerous to mention. It is only a matter of time before the NZ government will have to step up again with a much larger package than announced last week.
On Friday, the S&P500 index opened on a good note but trended lower through the session, ending down 4.3%, below the Christmas Eve 2018 support level, and in doing so marked its lowest close in over three years. It capped off another volatile week that saw the index down a hefty 15.0%. European equities managed a rare back-to-back increase over two sessions, but this pre-dated the hefty fall later in the US trading session.
Credit markets remained strained. The US high yield spread for all sectors broke up through 1000bps (at the height of the GFC it breached 1900bps), while the investment grade spread broke up through 350bps, compared to just over 200bps a week earlier.
Oil prices saw some downside pressure as investors weigh up the demand destruction, with some traders suggesting that demand might be lower in the order of 10-20 million barrels a day. WTI crude oil plunged by over 11%, taking its weekly fall to 29%. Brent crude fared better, down 5% for the day and “only” 20% for the week.
The upward path for US Treasury yields earlier in the week – a disturbing sign – looks to have been broken, with investors back to seeing government bonds as a safe-haven, encouraged by central bank buying. Government rates around the world showed hefty falls, with the US 10-year Treasury rate down by by nearly 30bps to 0.85%.
In NZ, the RBNZ announced a number of new operations to ensure that there was ample liquidity in the financial system, after some chaotic trading conditions over recent days. These operations included a term funding facility, an increase in funding in FX swap markets and providing liquidity to the government bond market. Assistant Governor Hawkesby confirmed in a Bloomberg interview that the Bank had bought small amounts of government bonds to help increase market liquidity. We are still awaiting the RBNZ to step up with large scale purchases of government bonds as part of a programme, with Hawkesby noting that was a decision for MPC to choose to deploy that tool.
The RBA began its government bond buying programme, purchasing $5bn worth across four maturities – out to eight years, signalling that it wanted to see lower yields across the curve and not just at the short end of the curve.
Both Australian and NZ rates fell significantly on Friday, with the tailwind of falling US Treasury yields and supportive central bank policy. The NZ 10-year rate plunged by 43bps to 1.46%, closing its gap with the swap market, with the 10-year swap rate down 22bps to 1.37%. Markets still feel fairly dysfunctional with liquidity holes and a RBNZ large scale bond purchase programme would certainly help grease the wheels.
Turning to currency markets, they remain highly volatile, with large trading ranges becoming de rigueur. The NZD showed some strength during the local session on Friday trading, with the USD under pressure after the California lockdown announcement. But the switch out of risk assets soon caught up, seeing the NZD weaker through the Friday night session and ending almost 1% weaker from the NZ close, back down towards 0.57. The AUD followed a similar path, closing the week just under 0.58. The RBNZ is monitoring the NZD and Hawkesby noted the Bank could step in where there is an absence of liquidity.
Against the macro backdrop of a deep global recession, both currencies still face considerable downside risk. But over the short term, this needs to be weighed against the pressures on the USD. The implementation of USD swap lines have helped ease the upward pressure facing the USD in the scramble for USD liquidity, evidenced by the movements in the basis swap market noted earlier. Still the USD was still broadly stronger Friday night. CAD and GBP were exceptions, both showing some gains, although not too much should be read into daily movements, considering the extreme volatility being seen. GBP was particularly whippy on Friday, trading a range of 1.14-1.19.
In thinking about how markets trade in the week ahead, investors will be weighing up how long the severe shutdowns across the world are likely to last – a function of how long it takes to get the spread of COVID-19 well under control – against the massive policy response that is taking place, which will lean against the shock. If investors fear that the Great Depression scenario is looking more likely, then risk assets face much more downside. The volatile market conditions are set to continue for some time yet.
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