Major Market Global Overview

May 13, 2020
This edition of our FX quarterly comes out a little later than usual. As March turned into April, there were simply too many uncertainties and unknown developments for us to make any sort of big picture calls with any degree of clarity or certainty. Those two months saw a flurry of policy responses around the globe that we will recount here.

We think most central banks have done much of what they can. Of course, existing programs can and will be expanded, but the bazookas are already out. We suspect more can be done on the fiscal side, especially in Europe.  Joint debt issuance appears to have died a slow death, but European policymakers have shifted to potential financing from the EU budget process. Unfortunately, this is likely to be a slow slog.

As we move through Q2, investors around the world are watching to see whether countries can emerge successfully from the lockdowns. With virus numbers leveling off and even falling in some countries, the time has come for many to take the first tentative steps towards reopening. One section in our quarterly focuses on the degree of lockdowns thus far and the likely paths to reopening the major economies. How quickly this can be done will ultimately determine the trajectory of recovery. Without a vaccine, any measure to limit the viral spread (lockdowns, etc.) will negatively impact the economy. There is simply no way around this.

The International Monetary Fund (IMF) recently released its updated World Economic Outlook (WEO) projections and they weren’t pretty. The global economy is seen contracting -3% this year, driven by a 6.1% contraction in the developed world and a -1.0% contraction in the emerging markets. Of note, the US is seen contracting -5.9%, the eurozone -7.5%, and the UK -6.5%. Within EM, China growth is seen slowing to 1.2% and India to 1.9%, while Brazil is seen contracting -5.3% and Mexico by -6.6%. 

Looking beyond the crisis, the IMF is optimistic of a V-shaped recovery and forecasts global growth of 5.8% in 2021. Of course, this is just the IMF’s best guess as of April. As we shall see, the recovery will be wholly dependent on how quickly (or slowly) the world can emerge from the lockdowns. There will be long-lasting debate as to whether consumer behavior has been permanently changed by the pandemic.  For now, markets will simply look for evidence that the global economy can start to recover from the unprecedented recession.

What happens next? We believe Q2 and even Q3 will be a period of observing. Will the virus numbers allow for continued re-openings? Will the massive stimulus efforts eventually bear fruit? Or will more need to be done? 

Equity markets appear to have found a near-term bottom, helped by the massive amounts of liquidity injected worldwide. Yet we are found wanting as we believe the equity storyline needs some sort of positive outlook for the economy and earnings. This current equity bounce is driven by optimism, but we need more than just hope. We need a clear idea how deep and how long this global downturn will be, and that is what we are looking for in the months ahead. 

Bond markets have several things to consider. First, there is little inflation on the horizon and central banks are not hiking rates anytime soon. With growth expected to remain tentative, there is a case for bond market gains. On the other hand, we are looking at record amounts of debt issuance globally in order to finance sharply wider budget deficits. Yes, many central banks will end up with a lot of these bonds on their balance sheets. But will it be enough to prevent a supply-driven spike in yields? Only time will tell who wins this tug of war.

Finally, we expect recent trends in the foreign exchange markets to continue into H2. That is, we remain bullish on the US dollar and remain negative on the growth-oriented majors (Scandies and dollar bloc) and EM currencies. There is simply too much economic uncertainty ahead to be bullish on growth-sensitive assets. Above all else, we’ll likely see heightened volatility across most markets until the economic outlook becomes clearer.

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