A quick note before I start writing. The content of this article does not aim to spread panic or fear - those two have never been good advisors in dealing with any type of situation. The goal is to provide well informed and emotionless analysis in order to facilitate rational decisions in the future.

As the time of writing, 2:00 am ET the number of coronavirus cases has exceeded 110,000 with more than 3800 deaths and 62,000 recoveries.


When we look at the above map, we can see that the virus has reached most countries in the world. In other words, the issue has become global. What's encouraging is that the number of cases in China has stabilized (orange line on the right bottom part of the graphic) and total recoveries (green) are rising. The problem is, however, that infections in other countries have been rapidly increasing (yellow line). Below you can see the graphic of new daily confirmed cases in countries with the largest number of affected people plus the United States.


As you can see in South Korea new cases have started to decrease whereas in Italy and Iran the peak might be yet to come. The problem with the United States is that there have not been many conducted tests yet. In Italy, in order to fight this substantial jump in infected citizens, the government has put roughly 16 million people under complete lock-down, more than a quarter of the country's population.

"The new measures say people should not enter or leave Lombardy, Italy’s richest region, as well as 14 provinces in four other regions, including the cities of Venice, Modena, Parma, Piacenza, Reggio Emilia and Rimini." as Reuters reported

In addition, New York's Governor Andrew M. Cuomo declared a state of emergency on Saturday as the number of cases in the city has reached 89.

The aforementioned developments have a huge influence on the markets. It increases fears for the US economic contraction as well as a global recession which if occurred may lead to a significant blow-up in the credit markets, in other words to massive defaults. Market participants at this moment perceive coronavirus spreading as unmanageable, hence the massive sell-off in the world stock markets in parallel with US bonds panic buying (these are perceived as a safe haven).

To these factors, we have to also include a collapse of the negotiations between Saudi Arabia and Russia about the oil production cuts at the OPEC+ meeting on Friday As a result, Saudis may substantially raise its supply and offer the commodity at discounted prices, which simply means a price war. I attached below a series of tweets that summarize the recent reactions across different markets.

I can describe the above using only one word: unbelievable. European indexes such as Eurostoxx, German Dax or FTSE in the UK have already fallen into a bear market (more than 20% drop from the highs). On the other side of the Atlantic, in the United States trading has been halted till 13:30 GMT. At this point, it is worth noting that during the US session if the index drops by 7% the trading is shut for 15 minutes, same after -13% decline and when the drop reaches -20% then the exchange will be completely closed.

WHAT'S NEXT?

It is highly likely that all market participants' eyes will be on the policymakers, both the central bankers and politicians and their next moves. Big financial institutions such as Morgan Stanley have already called for the next QE program in the US (Quantitative Easing - massive asset scale purchases such as bonds) to calm down the panic on the markets. This is of course in addition to the constant repo market support. The problem is that all US bond yields, including 30 years (the longest maturity) are trading below 1%, experiencing a massive move over the last couple of weeks. If the Federal Reserve would start a full program of government bonds purchases it may exaggerate drop in yields as well as their volatility and lead to severe unintended consequences - that no one is willing to predict. In other words, we are in uncharted territory in terms of the US government credit market. Below you can see the TYVIX index which is a volatility (fear) index of 10 year US bonds.


The graph shows that the number of deviations from its 1-year average has reached the highest level since the Great Financial Crisis. In this type of environment will the Federal Reserve would be brave enough to step in?

On the costs of credits front, in contrast to the Eurozone (-0.50%) and Japan (-0.10%), interest rates in the US are still in positive territory (at 1.00-1.25% target range) after last week's 0.50% emergency cut. However, the market is currently pricing more than a 70% probability that the Federal Reserve will cut the rates on the next FOMC meeting (on March 18) by 1.00%!!



Remember that the Fed has never hesitated to change the rates when the probability was higher than 80%. The above chart shows, that the market is certain of at least 0.75% reduction which if happens will leave no room for further actions for the most powerful central bank in the world. Considering those factors, I personally think they will decrease rates to zero slashing them by the whole percentage point. The only question which remains is will they do that before their March 18 meeting.

The other central bank which will be carefully observed during this week is the European Central Bank. In their case, the market is certain that they will cut rates by 0.10% to -0.60% on Thursday's meeting (March 12). If they do, however, I would not expect a material effect of this move on both the markets and the economy. It may only exacerbate the European Banks free fall which index has dropped more than 34% over the last 13 trading sessions. They may also increase the number of asset purchases, especially corporate bonds as companies in Europe may face real difficulties amid the European economy falling into a recession. 

On the other hand, we also have politicians who are promising a different kind of measures in order to fight the adverse economic consequences of the virus outbreak. On Tuesday last week, G7 finance ministers had a call after which they released a statement ensuring that they will use appropriate measures if needed.

"G7 finance ministers are ready to take actions, including fiscal measures where appropriate, to aid in the response to the virus and support the economy during this phase."

In Europe, Finance Ministers will discuss an economic stimulus plan on March 16. 

In Australia, the government plans to distribute $10 billion for small businesses, even considering cash handouts to ordinary citizens.

In the US, President Donald Trump signed into law an $8.3 billion spending bill for combating the virus outbreak, including fostering the development of a vaccine. Moreover, Larry Kudlow, US economic adviser said on Friday that the White House administration is considering financial stimulus to the distressed parts of the economy. In other words, they plan to pump cash for people who may lose their paychecks and subsidize small businesses. 

SUMMARY

Nowadays, we are witnessing many different activities among policymakers in order to fight the coronavirus outbreak crisis. The issue is, however, that the so-called sudden economic stops are accelerating from day to day and the biggest unknown is that there is no end at the horizon yet. In effect, in the upcoming weeks, it will create plenty of negative economic data reports (some countries will certainly fall into a recession), companies' guidance downwards revisions and maybe even massive bankruptcies. The most exposed industries are definitely tourism, cruise, restaurant, retail, oil, airline, and probably many others as well.

Therefore, at first, the policymakers must make sure that the virus is completely contained in order to recover public trust. That's extremely difficult but possible to achieve. China is one example as it has taken extraordinary measures by locking down for several weeks roughly 760 million people (fully and partially) or half of its population. There is no doubt that it will lead to massive economic pain but in the long run, the country's economy will recover. It just was the right thing to do. In terms of other countries such as the United States, Spain, the UK or Germany this will be a real test. Especially considering the fact that many people have already started to panic. We've been seeing people stacking food and other necessities such as toilet paper, even in the areas where the outbreak has not had an appearance.

At this point, I won't be tempted to make any predictions as there is too much uncertainty and the situation may turn around at any time. Having said that, I believe the coronavirus outbreak is the real black swan event for the global economy. The event, which is very unpredictable with potentially severe consequences for the markets. As we've seen over the last days, stock markets, credit markets, oil prices, volatility indexes, central bankers as well as ordinary people are acting as we are in a crisis. 

Let's face the truth then and say it- we are in the middle of a global crisis.

However, it does not mean that we have to panic. Crises have always occurred in the past and homo sapiens have always recovered, no matter if it's been a humanitarian or an economic one. It may take time to recover but eventually, the appropriate lessons will be drawn which for sure will bring a better tomorrow.

At the end of this piece, I would like to leave you with the graphic showing the death rate of the seasonal flu and the coronavirus by age as well as coronavirus death rate compared to other diseases.


It is not "just the flu" but it is not the end of the world either. I am not an expert but the coronavirus is not spreading at such a fast rate as in case of other diseases. It may change over time because as we know this is to some extent the lack of testing kits issue. Let's also hope that these death rates from the graph, so far (3.4%) and estimates (1%) will be decreasing.

Stay safe, stay informed, stay rational.

Seb

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