European stocks and oil decline as investors guess recovery shape

Morning Note

The OBR says the UK economy could fall by 35% in the second quarter. Brutal for sure, but it also expects a very sharp bounce back. This puts it in the V-shaped recovery camp, which is an ever-decreasing circle. Charles Evans, the Chicago Fed president, said yesterday the US is in for a very sharp but hopefully short downturn.

Money managers are more pessimistic. According to Bank of America’s latest Global Fund Manager Survey, just 15% see a V-shaped recovery. Over half (52%) see a U-shaped recovery, where the long line along the bottom stretches on for some time, perhaps years. A fifth (22%) see a W-shaped recovery – possibly sparked by a sharp bounce back and second or third wave of infections – and 7% see the dreaded L – a long depression like the 1930s and no real recovery. The biggest tail risk is a second wave of infections, which makes the speed at which you reopen economies key. My bet, for what it’s worth, is WWW, as previously noted.

Stocks are not showing the same level of pessimism as indicated in the survey, which shows fund managers’ equity allocation is the lowest since Mar 2009. That may be because the massive stimulus from central banks and government is supportive of large caps over smaller and medium-sized enterprises; your mom and pops in the US that don’t have the balance sheet to weather a few weeks of inactivity. Lorie Logan, the Fed’s manager of the System Open Market Account said the Fed’s unparalleled stimulus efforts have been key to calming markets. It also seems investors are too optimistic that economies will get back to normal quickly – the V-shape hope persists.

US markets rose 3% on Tuesday, with the S&P 500 up above 2800 again, while the Dow rallied more than 600 points to test 24,000, where it went into retreat and finished up 558 points at 23,949. Worth pointing out that the S&P 500 is roughly 30% off its lows and only around 16% below its all-time high now. The Nasdaq surged rallied through important technical levels, breaking north of the 50-day and 200-day moving averages as well securing a breach above the 50% peak-to-trough retracement around 8230. Donald Trump is talking up the prospect of reopening the economy by May – the tail risk of second and third waves looms.

European markets today have taken their cue from a lacklustre session in Asia overnight. Bourses were broadly weaker with the FTSE 100 extending losses from yesterday to drop below 5800 on the open. MSCI’s broadest index of Asia-Pacific stocks (ex-Japan) nudged up 0.2% to a one-month high but shares in Shanghai and Tokyo were softer after China lowered its medium term lending rate to a fresh record low.

Crude oil continues to feel the heat, with WTI front month futures dropping to test the $20 level again, with Brent testing $29. The OPEC+ deal is simply not enough near-term to rebalance the market. If $20 goes the stops will be out we could see mid-teens for WTI in fairly short order. The problem is also that in securing a deal it only helps sustain more production. Playing devil’s advocate, the Saudis should have kept their nerve and driven prices to the ground in order to be the last man standing. This only makes it likely we see persistent weak pricing. Unlike other times when prices drop and you see demand respond to the upside, the nature of economic lockdown means there is just no demand to take advantage of weaker pricing.

In FX, the pound is weaker this morning with GBPUSD having hit the top of the trend line and come off, sliding back towards to lower end and below the 50-day moving average to find support around 1.2530.

Gold spiked to set fresh 7-year highs with spot prices at $1747 before retreating sharply to $1710 on rejection of the $1750 target. There is chatter about central bank printing presses being behind this move, and the usual weaker dollar trope helping to lift boats. Whilst the gold safety net is all about the decline in real yields, the idea that central bank printing will lead to inflation seems a step too far given the profoundly deflationary shock from Covid-19. Nevertheless, despite inflation and inflation expectations tumbling the impact of Fed and other central bank easing could see real yields drop further into negative territory, thus providing ongoing support to gold prices.