Asian shares in disarray over SARS-like virus, yen rallies

Morning Note

Shares in China and Hong Kong fell amid fears over the spread of the coronavirus just as the new year holidays begin. The worry is this is another SARS, an outbreak that saw thousands infected and led to hundreds of deaths. It also led to billions of dollars of losses and hit Chinese GDP growth by up to one percentage point. If that happened again the IMF’s latest forecasts would not stand up, and we’d see a sharp contraction in many leading indicators of the global economy.

We don’t know how bad this will be, but with authorities confirming the disease can spread between humans, it’s wise to be on guard for this outbreak to get worse before it gets better. And there is a real fear that as millions of people travel long distances for the holidays the disease could spread far and wide. Markets are worried about this spreading to more cities. Australia has quarantined a man returning from the city of Wuhan, who is believed to carry the disease.

Hong Kong could be a real problem if it reaches there – the SARS outbreak led to sharp declines on the Hang Seng in the Jan-Apr 2003 period.

Shanghai fell almost 2%, while Hong Kong dipped close to 3% lower. A downgrade by Moody’s of Hong Kong on Monday hasn’t helped.

US markets will reopen after the holiday. Futures were in water-treading mode after Friday’s rally capped a strong week for the major indices. Netflix Q4 numbers are on tap later – with EPS seen at $0.5 on revenues of $5.45bn, and net subscriber additions of 7.6m, with 7m, from RoW and 0.6m from the US. The key question is to what extent competition is starting to bite – either in the Q4 numbers themselves or in the guidance (see Netflix preview: Content to be primus inter pares?)

Europe was flabby without the US liquidity with the DAX the only bright spot, eking out a gain of 0.17% to 13,548. Bulls continue to target all-time highs at 13,600 but the consistency with which this level has proved too strong to overcome is a concern. If it blows I’d expect momentum to grind out more record highs. The FTSE 100 retreated to 7,651.

European shares are catching a bit of a cold from Asia, but I’d anticipate very limited contagion as long as the coronavirus remains a purely Asian problem. DAX dipped to 13,470, with the FTSE moving under 7600 before paring losses. France and the US have agreed a truce over the planned digital tax, but risks remain.

The risk-off contagion spread to other markets with a notable divergence in FX, as the yen rose and the yuan fell. USDJPY has slipped its 110 berth to at 109.950, but remains supported above the 200-week moving average at 109.70. USDCNH jumped through 6.9. As we’ve noted before, there may be side effects on the US-China trade pact if the yuan takes a 7 handle.

Overnight the Bank of Japan offered no surprise as it left rates unchanged, and improved its growth outlook. Better growth prospects, the signing of the US-China trade deal and a weaker yen means the central bank need not rush into more stimulus. The BOJ kept its short-term interest rate target at -0.1% and a pledge to guide 10-year government bond yields around 0%.

Elsewhere, we’re looking to UK wage data today as another possible guide to what the Bank of England might do on Jan 30th. Earnings are seen up 3.4% in the three months through Nov, with unemployment is forecast at 3.8%.

Whilst there may be lots of arguments against a cut, the coordinated dovish commentary from half the MPC in the last fortnight is no accident. Data has turned notably softer and the BoE doesn’t want to risk allowing weakness to become entrenched. As noted in last week’s note on this, BoE: Stitch in time saves 9, there is a sense the Bank doesn’t want to get behind the curve of market expectations, and is seeking to get a jump on markets whilst still teeing up the cut. It would be following the Fed’s playbook in cutting early in order to prevent a downturn. This is the key thing to remember – the Bank does not want to let a weaker economy fester.  And whilst there is no trade deal with the EU, the MPC has been largely released from the shackles of Brexit uncertainty following the Conservative victory last month. Political risk has hobbled the MPC but this has diminished greatly and now is the window – before a possible clash with the EU in the spring that would make policy changes more political in nature – to get a cut in the bag to juice the economy. 

GBPUSD is holding 1.30 again having traded weaker yesterday. This level is the magnet until either the Bank decision next week or the gilt market moves early and gives a clear signal about what’s coming. EURUSD is little changed at a little below 1.11.

Gold was also a touch higher at $1566, catching some mild bid on the risk-off moves and as the yield on US 10s slipped below 1.8%.

Crude oil closed the gap within a few hours of trading yesterday, having spiked higher due to production outages in Libya and Iraq it failed the test at the 50-day moving average. At send time WTI was just holding on to $58, aiming to recover the 50% Fib level of the rally from the Oct low to the recent high around $58.30.

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