Simulus Resistant Strain

Stimulus resistant strain. Stocks fell in yesterday’s session after investors decided that lower rates were not enough to cure the virus.  Treasury yields plumed new lows as investors rushed into safe assets.

 

N O T E W O R T H Y

 

Be careful what you wish for.  I have been reporting that the Fed was increasingly likely to lower key interest rates at their next meeting in two weeks.  Yesterday, the central bankers decided to break the glass and make a mid-meeting, emergency rate cut.  Yes, they cut rates by -50 basis in an emergency move.  The last time we saw one of those was during the financial crisis in wake of the Lehman collapse. Yesterday, stocks initially reacted by rallying and ultimately falling precipitously, leaving many investors scratching their heads. Let’s unpack what happened and try to make some sense of it all. First of all, to use Chairman Powell’s own words, “a rate cut will not reduce the rate of infection… it won’t fix a broken supply chain”.  Let’s start with the broken supply chain.  The market has been dealing with a broken supply chain for some time.  The trade war, which now seems like it was in the distant past, surely disrupted the global supply chain as manufacturers struggled to find alternative sourcing.  Just as things started to look up, the Coronavirus took hold and brought new meaning to the word disruption as China reduced its production capability by -50% as it quite literally locked down the country.  I have been reporting the results of the slowdown in my notes as more and more companies announced the impacts of the supply chain slowdowns.  China, which has been hit hardest by the virus outbreak, has seen 80,270 cases and 2,981 deaths from the virus. The good news from China is that it appears that they are through the worst of it with daily increases in cases declining rapidly.  To be clear, they are still not out of the woods but they are closer to containment, which means production capacity will start to increase.  Ultimately, the flow of goods will get back to its normal pace, limiting the negative impact to a few quarters.  Interest rates in the US will certainly not change the pace at which China brings its production back up to speed. Lower interest rates may help US companies which have been impacted by the slowdown in Chinese manufacturing and consumer demand, but most of the damage is already done.  Now, on to the rate of infection outside China.  We have not experienced the full effects of the virus’ global spread but we have gotten a glimpse of what it would be like. Industries which rely on business and leisure travel have been hit hard as consumers and corporations have ratcheted down travel to avoid the virus.  If the virus continues to spread in the US we can expect that domestic travel will also decline, adding further pressure to airlines and tourist-dependent companies.  Traveling less on public transportation means more driving in cars, which aside from the increase in traffic (sorry LA and NY), may mean more demand for gasoline… that could be good for the beaten down energy sector.  OK, OK, so why did the Fed feel like it was important to make a pre-emptive emergency rate cut?  Wait for it…wait for it… CONSUMERS!  Consumer spending makes up roughly 2/3 of the US economy and strong consumption has been the primary driver of this current economic expansion, now at record length.  Lower cost of credit means that consumers can buy more with less.  That is certainly good news for housing, auto, and larger ticket items which are typically purchased with credit.  Consumers have been confident but they can be easily spooked, which could cause economic growth to slow.  That remains the single biggest risk to the economy right now. Yesterday’s market selloff was most likely attributed to investors thinking that if the Fed had to do an emergency rate cut, things must look bad for the economy. So, let’s do the final tally on what effects a rate cut may have.  Supply chain: nothing, air travel: nothing, housing/homebuilding: big positive, energy: nothing, banking: negative, bond investors who rely on coupon income: negative, and consumers… hopefully positive.

 

THE MARKETS

 

Stocks slid yesterday as traders feared that a Fed rate cut may not be enough medicine to cure the US economy from the Coronavirus.  The S&P500 dropped by -2.81%, the Dow Jones Industrial Average traded off by – 2.94%, the Russell 2000 slipped by -2.13%, and the NASDAQ Composite Index gave up -2.99%.  Bonds rallied and 10-year treasury yields fell by -16 basis points to close right around 1%, after trading below 1% for a while.  Gold rallied by +3.24% and crude oil got a +0.92% boost.

 

NXT UP

 

– ADP Employment Change is expected to show +170k new jobs created compared to last month’s +290k increase.

– Markit Services PMI is expected to remain constant at 49.4 and the ISM Non-Manufacturing Index is expected to come in at 54.9 down from the last read of 55.5.

– The Fed will release its Beige Book, which details economic health across the various Federal Reserve Bank regions.

– St. Louis Fed President James Bullard will speak today.

– Campbell Soup Co. will announce earnings before the bell.  After the market close we will hear from Marvell Technologies, Splunk, Zoom Video, and American Eagle Outfitters.

daily chartbook 2020-03-04