- Italy has just adopted severe containment measures; other countries will inevitably follow. Those measures will eventually help contagion to slow, though near-term they will also add to the drag on the economy.
- Market trends remain dominated by Covid-19 data (108k cases on 8 March). We stay cautious given 1/ the obsessive focus on the number of cases (challenging for at least another two weeks) and 2/ the risk of an equity drawdown extension beyond 20%. Focus may move to the US, where contagion is at an early stage.
- Positioning is starting to look healthier, as we have seen signs of capitulation over the past week. Selling from systems and automates is well advanced. But outflows from equity and credit funds will continue.
- Saudi Arabia has launched an oil price war, targeting Russia. Timing is most unwelcome. The fall in oil prices creates additional pressure on the US High Yield market (heavy in energy).
- The immediate market response to economic policy measures is smaller than usual, because they cannot address supply-side issues. But they are still greatly needed. Once Covid-19 fades out, they will support a strong turn in investor sentiment.
- The widening in money market spreads (FRA-OIS) deserves attention. Funding stress would support the ailing USD, but hurt global equities; central banks are likely to be very generous with liquidity provision.
- Tactically, reloading assets such as equities and High Yield bonds still looks risky. We expect some resilience in IG credit, more so in Europe where the ECB is likely to increase buying (12 March meeting).
- Longer term we look forward to reload positions and take advantage of the very cheap pricing of equities relative to ‘risk-free’ bonds. For long-term investors, this sell-off will present a buying opportunity. Once new Covid-19 cases flatten out, hopefully in early spring, incoming policy stimulus will help sentiment turn strongly.