13-Mar-2020

1) $5 Trillion Fed Injection And Still The Worst Day Since 1987
2) GBP/USD: Strongly Bearish, A Correction May Be Ahead
3) Dow Jones Plunges 10% Lower Despite Fed Lifeline
4) ECB Actions Fall Short In Design and Delivery

 

 

1) $5 Trillion Fed Injection And Still The Worst Day Since 1987

US stocks had their worst day since 1987 even after the Federal Reserve’s (Fed) announcement to flood the market with $5 trillion dollar over the next month. The Dow closed 9.99% down, as the S&P500 and Nasdaq slumped 9.51% and 9.43% respectively.

If the additional Fed liquidity couldn’t get investors excited, it is perhaps because the sell-off isn’t due to a thinning liquidity. In contrary, there is a gradual rise in trading volumes across the leading market indices as the sell-off deepens. This means that buyers are around, the liquidity is not drying up.

It seems like there is nothing the policymakers could do to stop bleeding. The combo of coordinated fiscal and monetary interventions proved inefficient dealing with coronavirus-induced global sell-off. As we have mentioned in our earlier reports, trying to boost activity through cheap and abundant liquidity at a time companies slow down operations to stop the coronavirus contagion is swimming against a strong current. At this point, there is little alternative to letting the knife hit the ground.

Heavy market headwinds in New York spoiled the mood in last day of trading in Asia, but not everywhere. The Nikkei lost 3.65%, stocks in Jakarta and Malaysia were slashed past 6%. Hang Seng fell 1.50%, but the ASX 200 bounced 4.42% higher as oil gained.

The latest sell-off has been a good test for the oil market. WTI crude held ground above $30 a barrel, laying the foundations of a solid support at this level. A market correction could encourage a recovery toward the $38/40 area, but thick offers could prevent further gains if disaccord between Saudi and Russia leads to a price war in oil markets, on top of the significant coronavirus-induced slump in demand.

In Europe, the European Central Bank (ECB) refrained from cutting the interest rates lower but opted for measures to incentivize higher bank lending and an expansion of 120 billion euro to its Quantitative Easing program. As such, the ECB is one of the few major central banks to have remained pat on rates. The other two are the Bank of Japan (BoJ) and the Swiss National Bank (SNB), who already run on negative rates and probably see no benefit in further cuts.

The ECB’s intervention fell short of expectations. The DAX and the CAC sank another 12% on Thursday. But we doubt a rate cut would’ve given them a different destiny.

The US dollar gained, and the yields shifted higher despite the Fed announcement. The US 10-year yields recovered to 0.84%. One plausible explanation could be that money freed from sold global equities may be pouring into the US dollar as investors turn to cash buying cheap US dollars. Another explanation is the flight to safety.

The euro fell to 1.1184 against a broadly stronger US dollar on Thursday, then rebounded to 1.12. Unchanged euro rates versus significantly lower interest rates and prospects for deeper cuts elsewhere should lead to a stronger euro in the medium term. The narrowing rate differential should play in favour of the single currency against the US dollar and the pound. The euro should maintain a steady grip above the 1.10 mark against the US dollar and it is just a matter of time before the single currency steps above the 0.90 handle against sterling.

The pound shortly crashed to 1.2490 against the greenback. Dip buyers stepped in near the 1.25 level. Cable should meet resistance approaching the 200-day moving average, if faced with a sustainable US dollar recovery.

The FTSE 100 tanked 640 points yesterday to the lowest levels in more than seven years. The 30-billion-pound fiscal support, the 50-basis-point interest rate cut, nor the additional monetary stimulus package helped improving appetite in British stocks. Banks, energy and mining stocks lost big.

Trading on FTSE futures (+3.30%) hint that the British blue-chip index may lick its wounds today. Cheaper sterling and steady oil should give some support to the index, but gains remain fragile.

 

2) GBP/USD: Strongly Bearish, A Correction May Be Ahead

GBP/USD after being bullish produced a strong bearish engulfing candle. The price has been heading down with strong bearish momentum. The pair had a very bearish day yesterday. The daily candle closed below the last swing low. Thus, intraday sellers are to keep an eye on the pair to go short upon a breakout at yesterday’s lowest low. The H4 and the H1 chart are bearish biased. However, there is an equation, which the sellers may calculate.

The daily chart shows that it created a bearish engulfing candle at the level of 1.31000. Yesterday’s candle breached through the level of 1.27400 closing well below the level. Ideally, the daily chart traders are to wait for the price to consolidate and produce a bearish engulfing candle to offer a short entry. The price may find its next support at the level of 1.21875. If the chart produces a corrective candle closing above the level of 1.27400, the pair then may get choppy for a while.

The H4 chart shows the price consolidated and made bearish move upon producing a bearish reversal candle at consolidation resistance. The price had a bounce at around the level of 1.25200. As of writing, the current candle has been bullish as well. If the candle comes out as a bullish candle, the price may go towards the level of 1.26225. The sellers are to wait for a bearish reversal candle followed by a breakout at the level of 1.25200 to go short on the pair. The price may find its next support at 1.23115. In case of a bullish breakout at 1.25200, the price may find its next resistance at 1.27400

The H1 chart shows that the price had a bounce at the level of 1.25200 twice. At the last rejection, it produced a bullish inside bar. However, since this is double bottom support, the price may head towards the North to find its resistance to make its next bearish move. The price may find its next support at the level of 1.24150. On the contrary, if the price makes a bullish breakout at the level of 1.26225, it may head towards the North with good bullish momentum and find its next resistance at the level of 1.28000.

All these three charts are bearish biased. The daily and the H4 chart need time to offer entry with better risk-reward. Meanwhile, the H1 chart looks good for the buyers. Thus, despite the pair being very bearish on the daily and the H4 chart, it may have a bullish corrective day today.

 

3) Dow Jones Plunges 10% Lower Despite Fed Lifeline

Extreme panic selling saw the Dow plunge 10% yesterday despite announcement of a USD 500bn asset purchase by the US F`ed. This asset purchase entails a huge liquidity injection and can be thought of as QE. Post the announcement the Dow had recovered 1000pts from lows but then sank again to end at the 2300pts lower. US rates are steady. The US Dollar has strengthened across the board, reaffirming its status as the ultimate safe haven.

We are likely to see another 8% crack in the Nifty on open. The fear index VIX is at the highest level since 2009. Rupee is likely to open weaker, in line with other Asian currencies and is likely to test the all time low of 74.48 against the US Dollar. The panic in equities has not snowballed into currencies to the same extent. The central bank has done a good job of containing volatility so far.

The ECB left the deposit rates unchanged but has opened the liquidity tap. The ECB announced measures to support bank lending and expanded it’s asset purchase program by EUR 120bn with a focus on private sector bonds. The ECB said it would inject even more liquidity into the banking system at even more favorable terms. The Euro tumbled post the ECB as EUR-USD basis widened again.

 

4) ECB Actions Fall Short In Design and Delivery

The outcome of yesterday’s ECB meeting is not entirely surprising but was still quite disappointing and contributed to a further worsening of sentiment in financial markets. At a technical level, the policy measures announced by the ECB go some way to alleviating real and potential strains in bank lending in the Euro area. However, in two key respects of delivery and design they fall significantly short of what is required in current circumstances.

As the ECB notes in its press statement the spread of the Coronavirus represents a major shock to growth prospects. A key element in this regard is hugely increased uncertainty and an associated sharp deterioration in sentiment in financial markets and (anecdotally at least) in the broader economy. In such circumstances, a central contribution of policy makers is to deliver ‘shock and awe’ in terms of the strength and range of the policy response. The ECB actions fell significantly short in this respect for reasons we discuss below.

First of all, markets had come to expect a large and wide ranging policy package from the ECB. Recent intermeeting ‘emergency’ rate cuts by the Federal Reserve and the Bank of England emphasised the seriousness of the current situation globally and illustrated the reaction function of major Central Banks. While the ECB’s deposit rate is significantly negative at ‐0.5% and many (ourselves included) have queried the merits of further reductions, the decision by the ECB last September to introduce a tiered deposit scheme seemed designed to open up scope for further cuts.

According to ECB president Lagarde the absence of a rate cut does not signal that the ECB has reached its effective Lower Bound but markets may draw exactly that conclusion and worry that the scope for further monetary policy support in the Euro area is very limited.

In a similar vein, the announcement of ‘a temporary envelope of additional net asset purchases of €120 billion until the end of the year’ was very short of detail on how this might operate and, in particular, how looming ECB imposed limits on its purchases of certain countries bonds might be overcome. It is understandable that the ECB might wish to keep some flexibility in regard to the use of this extra bond purchasing power but nervous markets want some reassurance that this firepower can be deployed.

It should be acknowledged that the ECB announced a couple of amendments to its refinancing operations for commercial banks that will support financing conditions in the Euro area. Additional temporary Long Term Refinancing Operations will provide near term liquidity support but much more importantly, the ECB introduced more favourable financing terms that could allow banks borrow at rates as low as ‐0.75% in the three year Targeted Long Term Refinancing Operations scheduled to start between June 2020 and June 2021. It also increased the amount of funding that banks can access at these operations. However, the scale of boost this may give the real economy may be limited because of increased caution on the part of both borrowers and lenders.

A second consideration in terms of the ECB’s actions is that the delivery of the decisions by ECB president Christine Lagarde did little to instil confidence that the ECB can and will act aggressively to support the Euro area economy. In marked contrast to the ‘whatever it takes’ commitment uttered by her predecessor Mario Draghi, yesterday’s messaging suggested that the ECB envisages it will play an altogether more limited role in responding to the current crisis.

Ms Lagarde may be entirely correct to argue that the nature of the current crisis means the policy response should be ‘fiscal, first and foremost’. However, the inference that the ECB will play a lesser role will feed the worries now unnerving financial markets.

In response to questions, Ms Lagarde’s repeated references to ‘making use of all the flexibility’ in the Asset Purchase Programme to avoid running into ECB imposed limits to its capacity to fully utilise a proposed €120 billion increase in that programme may hint at someone still coming to terms with what are very technical and relatively new monetary policy tools.

More disturbingly, her undiplomatic response to one question on increasing financial market strains that ‘we are not here to close spreads’ suggested gaps in her understanding of monetary transmission channels in the single currency area and associated travails during the recent Eurozone crisis and prompted a threatening surge in Italian bond yields and a marked widening in spreads across other Euro area Government bonds.