FX Week - 1st March 2020

Global markets endured a torrid week last week, centered on the deepening concerns over the effect of coronavirus on the world economy.

By Emirates NBD Research

Global markets endured a torrid week last week, centered on the deepening concerns over the effect of coronavirus on the world economy, and prompting speculation that policymakers will have little option but to respond via cuts to interest rates in addition to any potential easing in fiscal policy and of course to tackling the virus itself.

Stock markets plunged last week, catching up to some degree with the risk aversion that had already manifest itself in gold, currency and Treasury bond markets previously. The Dow fell by 12.3%, while the S&P dropped 11.49%, with other global indices falling by similar amounts, making it the worst week since the global financial crisis. Treasury bond yields also continued down to reach historic lows (10-year and 2-year at 1.148% and 0.913% respectively), while the dollar and gold finally succumbed to some rotation in risk aversion and margin calls, losing ground having earlier benefited from uncertainty. Needless to say the VIX index climbed sharply to almost reach 50, finishing the week at 40.1. The geographic spread of coronavirus was the most concerning aspect of it last week, even as the cases in China showed signs of slowing. Instead the focus turned to South Korea, Italy and Iran, where large outbreaks were seen carrying risks for neighboring countries as well as deepening the challenges for trade flows and supply chains. Towards the end of the week cases in the US were also gaining attention, as well as what were seen as inadequate responses from the White House. This contributed to a weaker tone for the USD which lost ground against the JPY and the EUR in particular, with the JPY rallying against it by 3.45% over the whole week. GBP by contrast was held back by domestic political concerns in the UK, with a prominent senior resignation from the Home Office, as well as threats from the government that it may pull out of trade talks with the EU.

Over the weekend there was news that the Chinese manufacturing PMI index fall to 35.7 in February, a record low, with the non-manufacturing index even weaker at 29.6. This probably sets the stage for a slew of other weak PMI readings around the world being released this month, which will continue to increase the pressure on governments and central banks to respond if only to inject some confidence into markets. Fed Chair Powell issued a statement noting that the U.S. economy is strong but that the virus poses risks, adding that the Fed will use its tools and act as appropriate. Following on from this we think the odds are increasing that the Fed will cut rates by 25bps at the March 17/18 FOMC meeting, and we are also now assuming another move by the Fed around the middle of the year. Whether other central banks will respond remains less clear, however, with the efficacy of an ECB move debatable with its key rate already negative at -0.50%, but with growth still sub-par. The coming week will see Bank of Canada and RBA policy meetings where easing decisions cannot be ruled out.