BOE pessimism fails to dent the pound, while Coronavirus fears could be near their peak
As we approach the end of the week the biggest theme that is dominating financial markets is the China Coronavirus outbreak that sent financial markets falling once again on Thursday and a rush to safe havens. However, as we move into early trading on Friday, there are signs that a recovery could be on the cards, and it is all down to the World Health Organisation.
WHO to the rescue
The WHO announced that it was declaring the Coronavirus outbreak a global emergency after it has infected nearly 8,000 people, about the same number as the Sars virus in 2003 and killed 170 people. Currently there are nearly 100 cases of the virus reported in 18 countries outside of China, but no deaths have been reported. While the statistics are grim, the death rate for the Coronavirus is much lower than for the Sars virus, which was approx. 10%, and there are signs that the growth rate in new cases is slowing. This was reflected by the WHO, who caveated calling the coronavirus a public health emergency by saying that it had confidence in China being able to control the disease, and also said that it was not recommending limiting travel or trade with China during the lifespan of this virus. This declaration from the WHO is important for calming financial markets for a few reasons: 1, it suggests that the virus could be contained as global measures are taken to halt the spread of the disease; 2, if the WHO is not recommending that trade and travel to China should be limited during this epidemic then it could go some way to limiting the fallout for China’s and other Asian countries’ economies from the outbreak.
Is a weekend recovery on the cards?
Financial markets that were still open after the WHO’s announcement showed signs of a recovery rally. US stock indices reversed earlier losses, the S&P 500 rallied more than 40 points from 3,245 to 3,285 on the news, while the yen has also lost ground vs. the USD, USD/JPY been trading around 108.60 ahead of the announcement, before trading just below 109.00. Likewise, gold has also fallen back from $1,583 to $1,574. The Vix index, which is Wall Street’s fear gauge, also dropped sharply at the end of the trading day, falling from 18 to 15 by the time US markets closed. Overall, these are signs that the market wants to recover, and if the WHO’s advice, that trade and travel should resume to China, then perhaps the economic fallout from the coronavirus won’t affect global growth too much.
Why the coronavirus could keep a lid on market optimism
While we could see some relief for Asian indices, which have been hit hard since markets have reopened after the Chinese new year celebrations, there will be an economic price to pay for the spread of the Coronavirus: consumer spending is likely to be curtailed, Chinese tech giants have suspended business, British Airways and other airlines have suspended flights to China until March, which is likely to hit business and tourism in China. There could also be some lingering fear around Chinese goods, particularly fresh products, which may dent export growth in the coming months. Thus, while we think that there could be a tentative recovery in Asian stocks on Friday, the recovery may be subdued, as the economic impact from the coronavirus remains hard to quantify at this juncture.
We would also urge caution when trading global risk assets during this outbreak for a couple of reasons. Although the WHO sound less concerned about the coronavirus than some may have thought, some may question if the WHO was pressured by China to sound optimistic and encourage a return to business as usual. Also, so far there have been no reports of deaths from the coronavirus outside of China. If this changes, then we could see another wave of fear hit financial markets, with stocks falling sharply and safe havens rising. It’s also worth watching the MSCI Asian emerging markets stock index closely in the coming days, as we believe that this index will be a good reflection of attitudes towards the coronavirus. So far, this index has lost more than 7% since news of the outbreak broke. It managed to pick up slightly on the back of the WHO news late on Thursday. Considering smaller Asian economies are likely to be hurt the most by this outbreak, then this index could be a good lead indicator. If it continues to recover, then it would suggest that sentiment is improving and that the market believes that the virus can be contained. On the other hand, if the virus gets worse from here, which we view as a lower probability event at this stage, then we would expect further declines in all emerging market assets, particularly in Asia.
BOE keep rates steady, but GBP upside could be limited
Elsewhere, the Bank of England meeting was hotly anticipated; however, it wasn’t the MPC’s rate decision that spurred the currency, instead it was a large suspect move higher in GBP/USD and EUR/GBP just before the decision was announced that has now been referred to the FCA. There has been concern about price movements ahead of BOE decisions in recent months, and if anyone has missed a move in the pound or been stopped out of a position on the back of one of these moves then it can be very frustrating; let’s hope that the FCA can get to the bottom of it.
Aside from a potential insider trading scandal linked to the pound, GBP/USD has managed to extend gains after the bank decided to hold interest rates earlier on Thursday. Ahead of the meeting, the probability of a rate cut was approx. 50%, so a market reaction was expected. GBP/USD rose to $1.31, before falling back slightly to $1.3090, which is the highest level in a week. The BOE’s decision to hold rates steady was that the most recent economic data has managed to show signs of a recovery in the UK. However, Mark Carney’s last Inflation Report was governor was fairly downbeat, with the Bank abandoning its growth target for the UK economy and downgrading its forecast for productivity growth. The UK is set to grow at 0.8% this year, with no growth expected above 2% for the foreseeable future. This didn’t dampen enthusiasm for sterling today, but it could limit GBP’s upside in the coming months, particularly if the new BOE Governor, Andrew Bailey, takes a similar view to Mark Carney on the likely growth path for the UK’s economy.