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Episode 18: Market Chaos and Oil Crisis

Episode 18 - Part 1

Can the central banks prevent market chaos?

Published on: March 10th, 2020 • Duration: 6 minutes

In this episode, we discuss how central banks globally have either already enacted a rate cut or poised to make one—however, will this be enough? Probably not--does that mean QE will be back in their efforts to mitigate the market madness? Is there anything left that central banks can do to prevent absolute market chaos? We then talk about the CPI—however, due to the violent market movements that have been occurring, many macro data points are already obsolete, and we explain why. Finally, we review the new, impressive US Non-Farm Payroll numbers.

06:29
  • This is Before and After from Refinitiv. I'm your host, Johanna Botta. This week we'll be looking at the expected global central bank policies to maintain stability, and the impact that Coronavirus and oil will have on U.S. CPI. In the After section, we'll be reporting on the stellar U.S. jobs numbers results. 

    The Fed has cut. The Bank of Canada has cut. Other central banks are poised to cut as well. But will cuts be enough? The answer is out, and the answer is emphatically 'No'. Does this mean that QE is therefore about to return? Or can Legarde get Europe's fiscal pumps primed? Last week, the Fed did a not so surprising 50 BP cut outside their schedule meeting. After the worst week in the markets since the Great Financial Crisis, chatter was building that we would see some co-ordinated easing from the world's major central banks. It looks like they may have missed the boat, though. Last Monday, March 2nd, with equities battered the world over, three of the world's leading central bankers issued statements. BOJ Governor Haruhiko Kuroda, ECB President Christine Lagarde, and the Fed Chair Jerome Powell pledged to take action and the words 'appropriate measures' were used more than once. So what exactly are the 'appropriate measures' for a global pandemic, the likes of which the world hasn't seen for decades? Well, it didn't take long after those statements for the Fed to cut rates. Perhaps they could have held off as the market was already rising on a word. And an additional 50 BP cut by the Fed is expected by the April and June meetings. What action will they take and how soon, remains an open question, especially given that all three are already operating with precious little ammunition in their policy arsenals, and the collapse in the oil price has thrown a spanner in the works. But with few options left in terms of rate cuts, what else can or would the central banks do to maintain stability or prevent markets from total collapse? As the Fed had the most room to cut, that was their first step. The ECB, which has a negative 50 basis key rate, has 10 more basis of cuts priced into their March 12 meeting. It's hardly going to move the dial. Eurozone banks have dropped through their all time lows. But Lagarde already hinted at alternative methods, such as 'targeted measures', this suggests that they could offer tools that more directly impact the ailing economy, such as ultra cheap loans tailored for firms, or more liquidity operations to bolster their economy. They could also include a further corporate debt purchases, or an increase in the exemption from the ECB punitive charge on commercial banks' excessive reserves. Whatever they choose, it needs to be dramatic and it needs to be now. 

    We were going to take a look at Wednesday's U.S. February CPI data, but Monday's price action has now made much of the macro data obsolete. There had been concerns that Coronavirus led supply shocks would become inflationary. And in some items, that may be the case. But the bond market is emphatically outlining the reality of a full blown demand shock. And that was even before we experienced Monday's stunning decline in oil prices with its knock on effect across the commodity complex. In a recent episode of Before and After we looked at 'Before U.S., 10 year yields reach zero' well within a few days, yields have already touched the low thirties. That's a 0.3 percent, another all-time low. The drop has come much faster than anticipated and reflects the combination of lower oil, plus the expectation that capex across the oil patch, which was already on the backfoot, will now collapse. This is what happened in 2014 and 2015. Lower oil prices might be a boost to consumer discretionary spending, but when the fall takes place at this sort of speed, it has huge implications across industrial capex complex, which will more than offset any boost that consumers may experience. 

    We may be able to say that we're getting closer to the low from which inflation can rebound. It may be that we are physically getting close to the low in bond yields, but that's clutching at straws. The repercussions will linger for a long time. It will need to be a co-ordinated fiscal response to boost a monetary response of central banks who had already stripped bare their policy toolbox. Fiscal responses, however, take far longer than monetary accommodations to work their way into the system. So Wednesday's CPI figures are now only a passing interest. The Coronavirus scare has re-opened the fault lines that remain from the Great Financial Crisis of over 10 years ago - and these can not be fixed by a few rate cuts alone. 

    The change in Non-Farm Payrolls for the last month came in huge. Two hundred and seventy three thousand jobs were added versus an expectation of one hundred and seventy five. Of course, the world changed towards the end of February, as Covid-19 spread to the rest of the world and markets were roiled. Nonetheless, the one factor of the economy which hadn't already begun to to celebrate was the jobs. One would expect, with almost cardiac arrest reaction of corporate America to Coronavirus, that would change on a dime. But one interesting question to ask is - 'will companies be swift to cut staff in such a tight labor market?' The reaction of futures in the market was almost nil. Friday's pre-market had the S&P futures down close to 3% and the monster jobs number did little to reverse it. One would hate to think how the markets would have reacted had the jobs number come in poorly. 

    So there it is. Central banks and inflation and the Before and the U.S. jobs number in the After Refinitiv data throughout. 

    This has been the Tuesday episode of Before and After. Please subscribe and hit the notification bell to ensure you're alerted to all of Refinitiv's future market updates. Have a great week and we look forward to seeing you again on Friday.

Episode 18 - Part 2

Can the coronavirus and oil crisis send the world into recession?

Published on: March 13th, 2020 • Duration: 6 minutes

In this episode, we will be looking at the turbulent times in oil and the University of Michigan Consumer Report. In the After section, we'll be reporting on the CPI number.

06:00
  • This is Before and After from Refinitiv. I'm your host, Johanna Botta. This week, we'll be looking at turbulent times in oil and the University of Michigan Consumer Report. In the After section. We'll be reporting on the CPI number. 

    This week's market action saw two black swans in Coronavirus and oil combine to create a lot of market movement. What at first started as an OPEC meeting to address the falling demand for oil around the globe, quickly descended into madness. A week ago Friday, the market had been unsettled by whispers that Russia wasn't fully on board with reducing their supply. What followed was an over-the-top response by Saudi, who promised to open the floodgates and produce oil at will. This triggered a 20 percent decline overnight and both WTI and Brent Oil. The unprecedented crash came after OPEC linchpin Saudi Arabia pledged to unleash its enormous excess capacity onto an already saturated market. The Saudis are capable of quickly boosting their production by 2 million barrels per day at short notice. I know February 7th seems like an eternity ago when on this show we were discussing what would happen if oil were to trade below 52, and what stress that would cost on high yield corporates. We even dared to dream a world where oil dropped below the next key level of forty two point five. And then last Monday happened. And now we know how it looks and worse, we know what the ramifications are. If we look at this 13 year chart of the high yield ETF compared to crude oil, we can see how the fate of both instruments is intertwined. In 2008, when the market collapsed, we saw oil trade down into the low 40s and HYG was in free-fall. Of course, in '08 the malaise was much more severe and the credit stress was acute. But today there are now signs that the problems are spreading, with corporates drying down their emergency credit lines and the investment grade ETF starting to underperform government bond futures. We can also see the last time HYG tanked under 80, when the Saudis flooded the earth with oil in 2015. Surely the stress on credit this time will be worse, coupled with a very real economic slowdown, which wasn't fully the case in 2015. So how can HYG still go lower? Given that the majority of shale drilling companies weren't profitable with oil above forty two point five, then the situation with oil down in the 30s is very drastic. If we assume that the collapse of a functioning OPEC will mean a race to get as much oil out of the ground in a short amount of time with no regard to price, then it's an impossible case to make for the U.S. energy sector. The caveats are that this is a fluid situation where geopolitics can truly affect reality. 

    Last time the University of Michigan's Consumer Sentiment Report was released on Feb. 28th, 58% of respondents saw good times financially in store for the remainder of the year. One safe assumption is that this report will not be as optimistic for the remainder of the year. As Covid-19 has spread throughout the U.S. in a much more geographically dispersed fashion, consumers will limit their exposure to stores, malls, theaters, restaurants, sporting events, air travel and the like. That being said, we've seen drastic repricing of stocks that reflect those spending habits. But is it enough? Could the Michigan report paint a less grim picture? Or are all past data points now irrelevant? Consider American Airlines, which in 2020 has seen its stock price halved. Now, remember, in 2001, after 9/11, most Americans were in no mood to go anywhere, let alone get on a plane. The Dow Transports Index sold off 32%. So far this month, it's down 26%. Not an insignificant repricing. One favorable aspect of last month's report will likely have improved on the bright side - 'Favorable buying conditions exhibited only insignificant changes over the past month or year. Declines in mortgage rates had a large positive impact on homebuying, with low mortgage rates mentioned by 42%, the highest proportion since 2016'. 

    The Bottom Line - we're looking for glimmers of hope and this report may offer some. If not, the stark picture is widely expected. 

    The headline MOM CPI number came in up 0.1% versus an expectation of zero. This uptick came even with a drop in energy prices of 2%, as food costs are the most rapid price increase in a year. Retailers facing supply shortages will have no incentive to discount, but as we said, economic numbers aren't as important as they were for us to gage the FED. We're much more concerned with the severity of the virus effects on the real economy. It seems like the February report is already showing preliminary effects that we anticipated. Of course, the FED already cut 50 BPS and the Federal Government has his own stimulus. But we need to stay aware of the impact on consumers and both fiscally related terms, and of course, virus related. 

    So there it is. Oil and Consumer Sentiment in the Before and CPI and the After. Refinitiv data throughout. This has been the Friday episode of Before and After. Please subscribe and hit the notification bell to ensure your alerted to all of Refinitiv's future market updates. 

    Have a great weekend and we look forward to seeing you again next week.