Covid-19 brings volatility to the fore - markets reaction

After the Fed’s emergency rate cut (to a range of 1 – 1.25%) and cuts in Australia, markets were expecting a co-ordinated easing of rates which would help bolster economies in the light of Covid-19’s devastating effect on supply chains and global demand. However, stocks slumped again overnight as Japan did NOT follow suit, and took no easing action.

As my friend Richard McCreery points out, cutting interest rates is still ‘experimental’, and profit warnings have been coming “thick and fast”, suggesting that easing action by central banks may not work to bolster stocks. The outcome remains to be seen, but diverging actions seem inevitable. Although the market expects a cut in March, a Reuters poll shows that only 40% of economists expect the European Central Bank to cut interest rates in 2020

JP Morgan;s economist says: “The immediate financial market response may not be material enough to cause a re-think. We did not put an ECB deposit rate cut into our forecast and we are still somewhat reluctant to do so after the Fed’s intermeeting cut.” Only 11 of 52 economists polled forecast a 10 basis point deposit rate cut to -0.60% at the March 12 meeting. But nearly 40% expect at least one rate cut by the end of this year.

German Factory Orders rebounded strongly this morning, a relief for an economy which was touching recessionary level in 2019! This took EUR/USD through 1.1200, the highest level in 7 months – after a low around 1.0800 3 weeks ago, that equates to a 3.5% swing – volatility has returned to FX markets. 

USD: California has declared a state of emergency after 1 death, only 500 Covid-19 tests have been carried out in the USA, and the Senate has advanced YSD 8.3 billion to combat the illness. No wonder the USD has declined.

This afternoon’s non-farm payrolls will grab headlines, as always. Markets expect solid job creation of approx. 175k, but more important is the wage inflation data. This is expected to decelerate from 3.1% to 3% - if deceleration is quicker than that, the Fed will feel entirely justified in continuing to cut rates. 

GBP: Resilient after a large decline 2 weeks ago. GBP/EUR fell from 1.1900 to 1.1400 in 3 days last week, but GBP has proved resilient, GBP/EUR around 1.1525 and GBP/USD nearing 1.3000 again after falling through 1.2750.

Decent PMI data in February can account for this, and also incoming Governor Bailey’s comments did NOT share Governor Carney’s enthusiasm for a global co-ordinate rate-cutting response to Covid-19. Despite this, Deutsche Bank yesterday cut the UK’s growth forecast by 50% (2020 growth predicted at just 0.5%), and suggested the Bank could cut rates TWICE before May.

In light of this, it makes you wonder where GBP resilience is coming from! 

CAD: Under pressure due to oil price declines, and Central Bank Governer Polz’s assertion that co-ordinate central bank action is needed – markets are looking for a 50bp rate cut through 2020.

AUD: Retail sales data disappointed overnight, hurting an already poor performing currency.

NZD: Also missed target with overnight data, also suffering 

Volatility has returned to FX markets, and we are seeing customers take sensible, safe precautions to combat it, and protect margins.