Coronavirus, oil drop and credit/ funding distress contribute to the extreme price action seen overnight

Coronavirus, oil drop and credit/ funding distress contribute to the extreme price action seen overnight - Market action - UST 10Yr yields hit a 0.32% low, US equities plunge > 7% 

• USD & Safe Havens (JPY, Gold & CHF): The price action on any single overnight session over the past 2 weeks looks relatively tame compared to the overnight action when the Dow Jones and S & P 500 drop more than 7% (with the latter limit down and triggering circuit breakers in the first 15 minutes of trading), UST 10Yr yields hitting a low of 0.32% as flows move into safe haven assets and in FX, the Safe Havens (JPY & CHF) continue their upward march, hitting  lows of 101.18 and 0.9188 respectively though Gold flat lines (closing at 1672) as investors repeat last week’s moves to take liquidate positions to pay for margin calls elsewhere.            

• USD & Safe Havens (JPY, Gold & CHF): The extreme sharp risk-off moves leaves many discussing 2008 comparisons, odds of intra-meeting central bank action and to what extent the oil selloff overnight exacerbates recession risk. Triggers for the overnight move include – (1) Oil – Last week’s OPEC+ attempt to reach agreement on future production cuts fails, resulting in oil prices plummeting 30% overnight, with Brent trading at around $35/bbl and WTI at $30/bbl. Citi analysts call the overnight fraying of OPEC+/Russia relations an “unprecedented crisis”. (2) Fed action not enough to stem credit and funding distress – with credit and funding distress already starting to be seen in the widening in US interbank and corporate credit yield spreads to US Treasuries, the Fed injects more USD liquidity overnight. Talk follows the Fed may emerge with a surprise rate move as they did last week but the “no show” leaves markets disappointed. Note that US rates now price 98bp of easing through year-end and Citi analysts expect the Fed to cut to the zero bound before June. (3) Coronavirus developments - China and South Korea now show signs of stabilization in new cases but cases continue to ramp up across Europe, the US and the rest of the world, having surpassed 109,000 worldwide in over 100 countries. Cases in Europe continue to climb the fastest, in particular, Germany, France, Spain and Italy (with more than 7000 cases confirmed) where further containment measures are likely to be introduced (Italian PM Conte is reportedly considering a total ban on travelling within the country in addition to the lockdown in Northern Italy until April 3). The US now has 500+ cases with the State of New York at 140+ and as per Bloomberg headlines with still widespread reports of testing bottlenecks. The Trump Administration is said to be exploring a response plan that may include support for Americans with no or limited sick leave.  Note that  WHO has yet to signal intent to deem the outbreak as a pandemic.     

Week Ahead - Central Banks - Fed intermeeting cut?? ECB’s possible response this week; US CPI & UK and Australian fiscal response   

• USD & EUR: The Fed is in a “blackout” period ahead of next week’s FOMC meeting but an inter-meeting cut still remains possible. Euro short rates have also moved to price a full 10bp cut for the ECB meeting (March 12)  but Reuters reports the ECB is working on liquidity measures for businesses hit by the coronavirus economic fallout (TLTRO directed at small/medium enterprises) with rate cuts seen as unlikely (Citi analysts).   

• USD: CPI Preview: February CPI to show limited virus impact for now – Citi analysts expect a solid increase of 0.21% in February core CPI. Risks though are skewed towards a softer reading if decreased demand for certain services as a result of coronavirus weighs on various prices.     

FX Outlook – CAD now seen most vulnerable within G10 on oil price dip and expectations for more aggressive BoC rate cuts               

• USD: Citi analysts look for further USD weakness versus EUR and JPY – (1) EUR and JPY have been utilized as funding currencies in carry trades and are being unwound in the current climate of extreme risk aversion; (2) EUR and JPY have traditional safe haven characteristics with strong external balances; and (3) Rates markets (and Citi analysts) expect the Fed to cut rates to the zero lower bound and it feels like the market expects QE thereafter. Rate differentials and balance sheets will likely come into play for EUR/USD and USD/JPY despite (current) growth advantage that the US enjoys over the rest of the world.  

• JPY: Japanese trust back purchases of foreign assets is likely to peak now following some  JPY 2,220bn in February and JPY1,958bn in January – an unprecedented level of overseas investments by Japanese pension funds. There is also talk that Japanese government funds may be asked to contribute to mitigate the present rapid appreciation in JPY, but as investment costs in January and February would likely have been high, it is more likely that these funds may consider lowering their average cost than rushing to USD buying currently. CitiFX analysts also think any FX intervention by Japan’s MoF or from the BoJ via additional ETF purchases is unlikely even if USDJPY drops to 95.00 in this current backdrop of elevated risk aversion.

• GBP: Rates fully discount BoE rate cuts but this week’s fiscal response could disappoint- UK rates now fully discount the prospect of a 25bp rate cut at the March meeting and one in August. But any disappointment emanating from this week’s UK budget would likely present a buying opportunity versus USD and Commodity/ Asia EM FX.

• CAD: Now seen to be the most vulnerable within G10 on the oil price dip and amid Citi analyst expectations for more aggressive BoC rate cuts. Citi analysts expect the BoC to cut 25bp cut in April and a further 25bp cut in June to bring the cash rate to 0.75% with the risk of even more aggressive rate cuts than the Fed if oil prices fail to rebound.     

This is an extract from the Daily Currency Update, dated March 10, 2020. Please approach a Citigold Relationship Manager if you would like more information.