China virus spread rattles equity markets, oil

Morning Note

Global stock markets started the week under a lot of pressure, as fears mount over the spread over China’s coronavirus outbreak. 

China has confirmed around 3,000 cases so far, with about 80 deaths. The authorities have extended the new year holiday by three days through to Sunday in a bid to control the spread.  

This has the potential to really rattle markets. And with stock markets having been at or very near all-time highs before all this broke, this is a perfect selling opportunity. The problem is for most investors this is just not a risk event they are prepared for – a true black swan in the making. If politics is hard to grasp for most buysiders then virology is impossible – that is enough reason to see de-risking to happen; although I would still anticipate dips to be bought. However the conviction may be lacking amid what will be a persistent worsening of the situation in terms of the number of the cases and the geography displayed by the headlines. As warned last week, this is going to get a whole lot worse before it turns. As with SARS though, I would expect a significant rebound once the – or indeed before – the worst is over. It’s worth noting that whilst the Hang Seng suffered heavy selling in the Jan-Apr period of 2003, the index finished the year up by 34% (albeit that was after three horrible years). We just don’t know enough about this.

Japan’s Nikkei 225 dropped 2% but most of Asia is shut for the holiday so trying to get a really accurate view of how sentiment is shifting is tricky – I’d think so would see some significant (3-4%) moves in Shanghai and Hong Kong today if they were not closed.   

European equities have been relatively sanguine in the sense that we’ve not seen a concerted move lower – Friday saw the major bourses add 1% each – the DAX hit a record high in the middle of it all last week. But I think as we start the week we do see some more coordinated risk-off flows as the indications that this virus has the potential to be a lot worse than SARS was in terms of the global economy.  Looking at the futures, the FTSE 100 handed back all of Friday’s rally and then some on Monday morning.

US markets had a tougher time – the S&P 500 suffered its worst week since August. But that’s only really because we’ve had such a languorous grind higher over the last six months. A second confirmed case in the US has spooked investors. Futures indicate further selling today with SPX last at 3260. Earnings this week have the potential to move the market – Apple, Tesla, Microsoft, Facebook and Amazon all due to report this week.

The big risk right now for Europe and US equity markets would be human-to-human cases within continental Europe/North America. Without that happening the focus will be more on the risk to global growth rates given the virus is hitting the drivers of global growth. 

Oil extended losses sustained last week as traders bet on slower China GDP growth and a hit to the global tourism industry – two of the key drivers of crude demand. Crude oil WTI sank as low as $52.50 in early trade Monday before paring losses to reclaim $53. We’ve seen further unwinding in speculative net long positioning, with the latest COT report indicating 520k net longs, vs 530k the week before. There’s a good chance we see $50 again, which is a level that would likely spark a response from OPEC when they meet in March.

Havens are well bid with gold rallying north of $1480 and the yen rallying past 109. US 10-year yields have sunk to 1.646%.  

In FX, USDJPY has recovered to 109 having sunk as low as 108.80, taking a look at the 100-day moving average. Safety flows ought to keep JPY bid. 108.50, the 200-day SMA, is the key support. Bulls looking to recover the gap and last Friday’s lows around 109.170. 

EURUSD is still on the defensive at 1.1030. Next up looks to be the key horizontal support at 1.0990, a level well-trodden in recent months. Data is light today but we do have the German Ifo survey at 9am GMT. 

GBPUSD is holding around 1.3070 having come off from its highs last week. All attention is on the Bank of England meeting on Thursday – it’s a coin flip whether they cut or not, according to market pricing. However, my inclination is that they will take this opportunity to ease.