Weekly brief

UNEVEN VIRUS RESPONSES FUEL ECONOMIC AND MARKET DISPERSION

The virus now looks (or would soon be) contained in most DM countries. Risks from second virus waves and continued spreading in EM countries remain significant. Yet, we are now likely past the economic trough, with lockdowns gradually easing in most countries. The true first-round economic impact from the virus is starting to emerge, but there is still limited clarity regarding the path of the recovery (we expect a meaningful rebound in the rest of May and June, followed by a laborious recovery until 2021).

 

Responses to the outbreak have been highly uneven as regards the levels of preparation as well as the timing and magnitude of shutdowns. A large group of countries choose deep but costly lockdowns (Hubei style), while others tried to balance the economic and health fallouts, which face a milder but lengthier impact (U.S. style). A third way existed, involving wide case testing and contact tracing, which seems to have worked best (South Korea style), but required preparation, equipment and swift action. The monetary and fiscal responses have also diverged, both in size and in policy orientations. These responses have and will lead to diverging economic and market performances.

 

As most traditional economic gauges fell behind the curve in tracking the vast swings in country’s growth, more real-time data (such as coal and electricity consumption, road/air traffic, mobility reports) have been more reliable indicators. We find that assessing activity with smartphones is particularly insightful. It suggests that EU activity is about 25% off from cruise level after its low in early April at 55%. Germany, Denmark, Austria are about 15% to normal, while Italy, Spain and UK are still 40% to normal, with France in between. The U.S. stands about 20% to normal. Activity in Asia is highly dispersed, with South Korea, HK and Taiwan close to normal, unlike India and Singapore, which are still 45% to normal.

 

As volatility and trading conditions normalize, momentum is moderating in most markets, with greater focus on fundamentals. Also, directional trades are less appealing. While most Global Macro managers sought to benefit from the bond rally, they are now increasingly favoring relative positioning to try and capture economic and market divergences.  While they say the impact and market contribution from the variety of stimulus is complex to assess, they are seeing arbitrage opportunities in rates and FX. In particular, currency markets, which endured lesser relative volatility, are expected to go through the deepest adjustments, especially in EM countries.

 

Interestingly, macro managers are increasingly adding core positions to secular themes, which the virus outbreak may have contributed to accelerate, in cloud computing, renewables, robotic.

 

Major macro inflections usually hurt top-down styles in the first place. In particular, as lagging economic data failed to capture the reality of the epidemy, systematic macro models initially struggled. However, increased economic volatility and differentiation have historically translated in strong periods of alpha for Global Macro, with more risks but more opportunities. The receding correlation across Macro managers returns might already mirror greater depth in trading opportunities.