Savills Weekly Cut: Volume 5

The week was a concentration on the snowballing coronavirus and its emerging social and economic global impact. The spread into mainland Europe via Northern Italy, France and Iran highlights the mobility of today’s global population, with the US and Australia recording their first deaths. We are seeing runs on supermarkets and public events are well down on crowd numbers, with the IOC contemplating cancelling the Tokyo Olympics in July.

The flow on of these social effects into economic effects saw global markets melt down aggressively (the worst weekly performance since the GFC), with stock markets sold circa 10% over the week. This reaction to the spread of COVID-19, finally brought the US Fed out to make a statement. Federal Reserve Chairman Powell said they were “closely monitoring” the epidemic and its potential to slow economic growth. He said in a brief statement: “The fundamentals of the US economy remain strong. However, the coronavirus poses evolving risks to economic activity. The Federal Reserve is closely monitoring developments and their implications for the economic outlook. We will use our tools and act as appropriate to support the economy.” US markets are now speculating that the Fed could ease rates in March down 25bp from the current 1.50%-1.75% range.

Market moves over the week:
S&P500                        -11.5%
Dow                              -12.4%
Nasdaq                         -10.5%
Oil                                -15.3 to US$45.26
US 10yr Bonds              -32bp to 1.157%
ASX200                        -9.8%
Aust 10yr Bonds            -10bp to 0.83%
AUD/USD                     -1.30c to US$0.6471
STOXX600                   -12.3%

The coronavirus related shut down of China is beginning to negatively impact their economy, with Chinese PMI (manufacturing purchasing managers index) falling from 50 to a record low of 35.7 in February, with services down from 54.1 to a record low of 29.6.

The "Peoples Fear Gauge" is flashing lights and blaring sirens

The “Peoples Fear Gauge” plots the S&P500 ETF with its trading volume. The SPDR S&P500 ETF is a good indicator of how the broader investor market, including “Mom & Pop” investors are feeling about the US Equity market. Essentially a large % movement in the index coupled with a large increase in trading volume, represents a major turning point in the markets or a major trading event.

In this case, it represents the realisation of the spread of the coronavirus into Europe and the US and the expected negative impact on companies, business, confidence and hence economies.

We saw the ETF trade down 11.7% and volume spike to 284.3m shares versus the average around 68m shares.

This move constitutes an event and follows a similar move in the US on Wednesday. As such a major stock market correction is underway, reflecting the complacency of investors being leveraged to a continuously rising US stock market, highlighted by it making higher highs in the last few months, triggered by agreement in the US/China trade dispute and marginally better than expected US earnings season.

The Aussie Dollar also took a belting, down to US$0.6470 this morning. While, in normal markets, a weaker AUD is good for export competitiveness and GNP and as such the receipt of foreign currency, in the current environment the markets are speculating that demand for Australia’s product and in particular Resources and LNG will dramatically fall, thus negatively impacting GDP.

Further hits to GDP in the 2H20 could bring on a recorded technical recession, resulting from the bushfires from November through to January, the floods and storms in February and now the flow on effect of the coronavirus on our major industries of tourism, education and resources.

With the RBA somewhat out of bargaining chips with interest rates at 0.75%, there is very little wiggle room it has. This will mean Canberra will have to rethink its policy on addressing the budget deficit and actually utilise record low interest rate levels and borrow and loosen up fiscal policy via national spending initiatives.

The saving grace in all of this is that access to capital isn’t and shouldn’t be affected. This is not like the GFC where debt and the ability to repay it was impacted, resulting in a loss in confidence of the global banking system. A vaccine for coronavirus will be found, but it will take time, however supply chains will be further impacted that will slow global economic growth.

In the meantime there will continue to be a capital flight to safety, resulting in bonds to continue to hit all-time low yields. The following graph highlights the move down in the curve from 1 month and 6 months ago:

The next few weeks will be very important as to how Canberra reacts to a worsening, and likely to be upgraded to pandemic, coronavirus and the resulting slowing economy.

Outside the square

There is fast becoming an unintended consequence of the coronavirus in China, where NASA has detected a significant decline in pollution (nitrogen dioxide (NO2) — a noxious gas emitted by cars, power plants and factories) since mid-January. According to NASA the reduction in NO2 was first apparent near Wuhan, the epicentre of the virus, where millions of people are quarantined.

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