As Europe’s coronavirus death rate climbs, China’s recovery from the epidemic has become a bellwether for investor sentiment
- If economic activity resumes in China without triggering renewed clusters of outbreaks, investors will conclude that aggressive containment measures can be successful and they will have clarity on the depth and duration of the crisis
In the space of just two months, the rapid outbreak of Covid-19 in Wuhan has morphed into a fully fledged global financial and economic crisis.
On Monday, the index suffered its sharpest daily fall since 1987, sending the VIX Index, Wall Street’s “fear gauge”, to its highest level since the 2008 financial crisis.
Gauges of stress in the financial system are rising sharply. Companies and banks are hoarding US dollars to service their debts and keep business flowing during the crisis, causing a dollar funding squeeze. Corporate debt markets have come under severe strain – spreads on high-yield energy bonds have surged to a record high – while Italy’s benchmark borrowing costs have more than doubled over the past fortnight.
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However, shutting markets, particularly the most important ones in America and Europe, could add to stresses in the financial system, and only compound investor anxiety.
Health policy, as opposed to monetary and fiscal policy, has become the most important determinant of market sentiment.
While investors are nervously eyeing gauges of financial stress, they are paying more attention to the latest data on confirmed Covid-19 cases.
In a sign of the degree to which Europe has supplanted China as the epicentre of the disease, death tolls are now growing at a faster pace in Italy and Spain than they did in China at the same stage of the outbreak. In Britain, around 700 new cases were reported on March 18, forcing the government to prepare for the closure of London.
If economic activity resumes without triggering renewed clusters of outbreaks, this would show that aggressive containment measures can be successful, providing more clarity on the depth and duration of the Covid-19 crisis.
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As Morning Porridge, a widely read market newsletter produced by Bill Blain, noted on Tuesday: “We reckon the buy signal will be a slowing infection/transmission rate. That is when the market will anticipate recovery and we’ll see prices start to strengthen.”
The key question, however, is the length of time it takes for the global infection rate, particularly in Europe and the US, to peak.
Markets, which are already showing signs of breaking down, cannot afford to suffer further dislocations lest a 2008-style credit crunch takes hold.
The panic will force central banks to adopt more radical measures to help stabilise markets, such as purchases of corporate bonds, which have come under severe pressure.
Yet, the policy response that will matter most in helping restore investor confidence will be public health measures aimed at lowering infection rates and stemming the spread of the virus. All eyes will be on the Johns Hopkins University dashboard for some time yet.
Nicholas Spiro is a partner at Lauressa Advisory
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