The Market Today
COVID-19 Continues to Roil Markets, Alters Economic and Rate Projections
by Craig Dismuke, Dudley Carter
COVID-19 Update: The COVID-19 outbreak has entered a new stage of heightened fear and uncertainty. The number of confirmed cases outside of China jumped 34% over the past 24 hours, an increase of 1,044 new cases including 505 cases in South Korea alone. Shortly after President Trump’s press conference last night in which he appointed Vice President Pence to lead the federal effort to fight the virus, a new case was announced in California. The case is currently believed to be the first case in the U.S. with “unknown origins,” meaning the infected person neither traveled to China nor had any known contact with someone who had. According to a letter reportedly from the interim CEO at U.C. Davis Medical Center, the patient has been at the hospital for over a week, was first denied for a COVID-19 test because she did not meet the standard for receiving the test, but subsequently was tested with a positive result confirmed yesterday. As such, the infected person had at least one week of exposure, albeit limited by hospital protocols, at U.C. Davis Medical Center and some exposure in the previous hospital. She is from Solona County, home of Travis A.F.B. where some patients from the Diamond Princess have been quarantined since being evacuated. Also reported yesterday, C.D.C. Director Robert Redfield told a House committee that the agency can only handle 350-500 tests per day right now because of a faulty test kit.
The COVID-19 outbreak has now crossed a threshold sufficient to warrant adjustments to our 2020 economic growth and interest rate projections. Coming into the year, we anticipated that the Fed’s Monetary Policy Framework Review, due to be completed this summer, would be the most likely catalyst for a policy rate cut in 2020. The COVID-19 outbreak, however, has added an unexpected and increasingly significant headwind. Through five weeks of monitoring, the virus has already spread dramatically more than the 2003 SARs pandemic and the economic impact is proving to be more consequential. Moreover, the market response has bolstered the argument for a policy response. While significant uncertainty attends our projections given our inability to project the future path of the outbreak, we do believe that the economic consequences and market reaction have already reached levels which will warrant a policy response. As such, we now expect the Fed to ease policy at either their March 18 or April 29 meetings. Additionally, we have adjusted lower our 1H20 economic growth projections as well as our expected path for longer Treasury yields.
Forecast Revision – Unexpected COVID-19 Outbreak Alters Growth and Rate Projections
- COVID-19 has spread considerably faster than SARs
- COVID-19 has not been contained to mainland China as it initially appeared it would be
- Some countries are likely to see significant economic contraction in 1Q20
- Almost all countries, including the U.S., appear to have some economic vulnerability
- Any rebound in activity is likely to be delayed by the magnitude and persistence of the outbreak
- We have very little certainty in how COVID-19 will progress going forward
- Fed officials responded to uncertain economic conditions assertively in 2019
- Uncertainty from the virus, the inversion of the yield curve, and still-soft inflation are likely to result in another easing of policy
- We now expect the Fed to cut rates in March or April
- We are lowering our 1Q growth projection from 1.9% to 1.0%, followed by a slower rebound
- For link to full Coronavirus Chartbook, please click here
- For link to Forecast Revision, please click here
4Q GDP Holds at 2.1%: The economic data do not matter right now – it is unlikely to take into account the duress caused by the COVID-19 outbreak. However, the first revision to 4Q GDP showed a slightly weaker rate of growth than initially reported, although the headline GDP figure remained at 2.1%.f Personal consumption was revised down from 1.8% to 1.7% and business investment was shown to have contracted even more than initially reported. Residential investment (housing) was marked higher, revised up from +5.8% to +6.2% and the quarterly trade deficit was shown to have contracted even more. The price deflator was notched down 0.1% to 1.3%, reflecting even weaker 4Q inflation but helping keep the headline, real GDP figure at 2.1%.
Durable Goods Report Showed Traction for Business Investment… Prior to COVID-19: Also released this morning, the first look at business investment in January showed better-than-expected orders and shipments of core capital goods. However, this data does not capture any chill put on investment in the wake of COVID-19.
Jobless Claims Key to Watch, Remain Solid: Initial jobless claims for the week ending February 22 increased 8k to 219k, but remained in solid territory. New filings for unemployment insurance will be a key indicator to watch each week in the event that companies begin pulling back on the number of workers as the global supply chain remains disrupted.
Pending Home Sales and Regional Manufacturing Report: At 9:00 a.m. CT, the January pending home sales report is expected to show a solid month. At 10:00 a.m., the Kansas City Fed’s regional manufacturing report is expected to remain weak.
Fedspeak and COVID-19: Chicago Fed Bank President Evans is scheduled to speak in Mexico City at 10:30 a.m. CT and Cleveland Bank President Mester is slated to speak this afternoon. Comments from Fed officials will take on new importance as the virus continues to wreak havoc. Former Fed Governor Kevin Warsh called for the Fed to take assertive action in a WSJ piece last night.
Equities Erased Early Gains to Deepen Drop from Last Wednesday’s Record High: The Dow and S&P 500 fell for a fifth consecutive session on Wednesday, unable to hold on to early-morning gains amid persistent worries about the spread and economic effects of the COVID-19 virus. The S&P 500 gained as much as 1.7% after an hour of trading, but ultimately gave that and more back by the close. The index closed the day down 0.4%, raising its cumulative decline from last Wednesday’s record close to 8.0%. The number of new cases in South Korea and Italy have soared in recent days in an acceleration of the spread outside of China that has now impacted 37 separate countries, excluding the Diamond Princess cruise ship. The reenergized activity beyond China’s borders has buffeted global market morale and driven the price of safer assets notably higher.
Yields Continued to Price In Quicker, Deeper Fed Response: While the losses were widespread across most sectors, energy companies were the biggest drag on the S&P 500, dropping nearly 3% on the day. Crude prices continued to crumble Wednesday despite a smaller build in U.S. inventories than was expected and a larger-than-forecasted drawdown in gasoline supplies. U.S. crude dropped 2.5% to below $49 per barrel, down more than 22% from an early-January peak and the cheapest level since December 2018. Gasoline futures sank more than 5% to the bottom of their range since 2018. Treasury yields continued their slide, with Wednesday’s push lower led by the front end of the curve. The 2-year yield dropped 4.0 bps to 1.17% as fed funds futures ratcheted up the likelihood of a Fed rate cut in April from 67% to 89%. The 5-year yield fell 2.5 bps to 1.16%, the lowest since September 2016, and the 10-year yield edged 1.5 bps lower to 1.34%, a new all-time low.
U.S. Officials Say Current Containment May Not Hold: Selling of global equities regained steam on Thursday as worries of a virus pandemic rose with the accelerating spread outside of China. In a Wednesday evening address to the nation, President Trump stressed that his administration had taken stringent measure to keep the virus from spreading in the U.S. and was actively working with medical agencies to keep the current cases contained. However, medical professionals who spoke alongside the president indicated that it was probable that the U.S. would see the number of virus cases go up, and asked businesses and citizens to dust off their pandemic procedure manuals in the spirit of preparation. In the middle of the press conference, news reports hit that the CDC had confirmed the first case believed to result from community spread, with no links to China, in Sacramento.
Uncertainty Outside of the U.S. Adds to Stateside Worries: U.S. futures turned lower and Treasury yields dipped as gold rose. Excluding small gains in China, equities were weaker across Asia and have tumbled in Europe. The Stoxx 600 was 3.3% lower just before 7:30 a.m. CT and is down 8.5% this week at a four-and-a-half-month low. The pressure on U.S. futures intensified, sending contracts on the S&P 500 down 1.4%. In addition to the increased U.S. concern, foreign developments compounded investors’ fears. The number of cases in South Korea continued jumped by the most since the outbreak there began. Several countries in Europe, including Estonia and Denmark, reported their first cases. Germany reported several cases with no direct link to China and its health minister said the country is staring at a pandemic. Japan announced it was temporarily closing all schools across the country and Saudi Arabia cancelled popular religious visits.
Treasury Yields Fall Sharply As Markets Become Convinced the Fed Will Respond With Rate Cuts: The incessant uncertainty has sent Treasury yields sharply lower, with the 2-year yield down 7.7 bps at 7:30 a.m. to 1.09%, its lowest level since December 2016 (when the fed funds target range was 0.25% to 0.50%). Fed funds futures are now pricing in a greater-than-50% chance of a rate cut at the March meeting and fully expecting three cuts by the end of the year. The 5-year yield fell 7.1 bps to 1.08%, the lowest since August 2016, and the 10-year yield dropped 6.8 bps to 1.27%, an all-time record low.
New Home Sales Heat Up Amid Warmer Winter Weather: Warmer winter weather and positive momentum from last year’s decline in mortgage rates led to a stronger-than-expected jump in sales of new homes in January. Sales surged 7.9% last month, more than doubling expectations for a 3.5% gain, to an annualized pace of 764k units. While this series tends to be volatile and can be subject to large revisions, last month’s gain was above average for the cycle and the pace reached a new high stretching back to July 2007. Additionally, there was a net positive revision to the prior three months. Regionally, sales cooled in the South but activity across the West and Midwest saw double-digit gains. While housing starts picked up rapidly in the second half of 2019, there has been little net benefit to the number of new homes available for sale. The current inventory level would be absorbed in 5.1 months at January’s pace, the tightest inventory reading since November 2017. As a result, the median price of a home sold jumped 14.0% from an unusually weak January 2019 level to $348.2k, a new all-time high.