Global markets have taken on a much more upbeat outlook over the last month. The S&P500 for instance was up 18% in April, its largest monthly rise since 1987. The technology heavy Nasdaq rose 21% last month while the Russell 2,000 index, which captures smaller American companies, rose 23%.
There have been a number of factors behind the sharp improvement in equity markets around the world. Several countries have announced partial reopenings in May. COVID curves have also flattened in many countries. Gilead Sciences, the maker of Remdesivir, stated it had seen some positive results in a US study.
Oil markets cheered some signs that the pace of inventory increase may be slowing. And some commodity markets such as copper, which tends to be seen as an important barometer of the global economy, hit 6 week highs.
This much more upbeat flew in the face of some truly shocking data. US growth contracted by a larger than expected 4.8% in Q1 in annualised terms. Much worse is still to come though with the Q2 contraction forecast at -26%, again in annualised terms, meaning the US has plunged into a vicious recession.
Meanwhile France confirmed the fastest drop in the economy since records began in 1949. The 5.8% contraction in Q1 from the previous quarter followed a modest 0.1% contraction in Q4. So France was already in recession even before COVID struck.
However, the most shocking single piece of data has to be initial jobless filings in the US. Another 3.8m Americans filed claims for unemployment benefits last week, bringing the 6 week total since the start of the lockdowns to more than 30m.
It took the US economy almost 10yrs from the end of the global financial crisis to create a net 21m jobs. It’s taken just 6 weeks to destroy 30m jobs meaning that unemployment will likely head above 20% and beyond.
The FOMC statement this week was very clear about the “considerable risks to the economic outlook over the medium term”. And chair Powell noted in Q&A that “we are committed to using our full range of tools to support the economy in this challenging time, we are going to use them forcefully, proactively and aggressively until we are confident that we are solidly on the road to recovery”.
Our sense is that the aggression behind the Fed’s moves has been a major driver of improved sentiment in global markets. The Fed’s balance sheet has been propelled from less than 4 trillion before COVID-19 hit the US to around 6.5 trillion currently. That’s an increase of US$2.5tn, more than the combined QE1 and QE2 programs the Fed executed between Q3 2008 and Q3 2011. And given that the Fed’s balance sheet is likely on its way to between 8-10 trillion, the current Fed action could be larger than QE1, QE2 and QE3 combined.
The speed with which the Fed has executed this move that has also added to optimism in markets. Over the last 8 weeks, securities on the Feds balance sheet have increased by US$1.6tn – that’s 4 times the fastest pace of increase that we have ever seen.
The idea that the Fed could become even more “proactive and aggressive” has certainly helped offset the horrible data that has started to be released around the world.
While the improved tone has extended to some commodities including copper up 5% in April, the commodities that Australia specialises in exporting have not fared as well. Thermal coal lost a fifth of its value in April; metallurgical coal used in blast furnaces lost a quarter of in April; Asian liquid natural gas prices dropped to fresh record lows. While iron ore prices have held up better, the weakness in the commodities that Australia specialises in exporting certainly calls into question the strength of the Australian dollar.
Indeed, the Australian dollar was the strongest G10 currency in April by a significant margin, with the NZD a distant second. So is this move justified?
We could certainly argue that the speed with which COVID curves have flattened in Australia and New Zealand will have helped sentiment; and with both countries moving towards removing some restrictions, that could help sentiment further. However, in coming weeks we think that this optimism could be tested.
Now next week we will start to see partial reopening in some US States and in the likes of Italy and Spain on Monday. That will provide an early litmus test of the feasibility of economic recovery potential while strict social distancing measures remain in place. We also get a range of US economic data including the manufacturing and non-manufacturing PMIs plus the key non-farm payroll report for the month of April.
Here in Australia, we have final March retail sales plus Q1 data; final March merchandise trade data; the RBA releases its policy statement on Tuesday and the Statement on Monetary Policy on Friday.
Westpac’s Chief Economist Bill Evans is forecasting no change in rates until 2023, so what the RBA says will be more important, especially if the RBA does note that the Australian dollar on a trade weighted basis is now above levels prevailing before the first cut at the beginning of March.
Event risk
China holidays (Mon-Tue), Japan Golden Week holidays (Mon-Wed), RBA policy decision, Aust Mar building approvals, Malaysia CB policy decision, US Apr non-manufacturing ISM (Tue), Aust final Mar retail sales, NZ Q1 unemployment (Wed), Aust Mar trade balance, China Apr trade balance, Bank of England policy decision (Thu), RBA Statement on Monetary Policy, Aust government reviews social restrictions, US Apr employment, Canada Apr employment (Fri)
