Market Review 01/2020

In the second half of the month, spread of coronavirus caused visible panic in the whole world. Markets feared that the epidemic will paralyze the work of Chinese factories and, given the size of the economy of this country, the suspension of trade with China will certainly affect the global economy. Currently, aviation sector due to suspended passenger traffic with China is at risk, as well as base metals and mining. History shows that danger is only a horror story in the headlines rather than a real global threat, so the likelihood of a “black swan” that can cause a collapse in stock markets is still extremely small.

Coronavirus bites China’s economy

Still, growth in China’s manufacturing sector likely stalled in January after two months of modest gains with coronavirus adding to risks facing the already struggling economy. In order to limit the spread of virus, extensive transport curbs and tough public health measures were implied, weighting heavily on the travel, tourism and retail sectors. However, growth in China’s services sector activity quickened in January yet the sector could take a hit when shops, restaurants and movie theaters see a slump in sales as people avoid crowded areas.

Europe is running out of steam

German retail sales fell more than expected in December, suggesting that private consumption in Europe’s biggest economy has run out of steam in the final month of last year. French economy contracted slightly in the final quarter of last year as consumer spending and business investment growth slowed and companies cut on inventories. In addition, French business activity expanded at a weaker pace in January marking a four-month low.

“Veni, vidi (and almost) vici” Trump’s way

The U.S. economy missed administration’s 3% growth target for a second straight year, posting its slowest annual growth in three years as the slump in business investment deepened amid damaging trade tensions. The economy grew 2.3% last year and that was the slowest pace since 2016. Meanwhile U.S. manufacturing output rose unexpectedly in December as the drop in motor vehicle output was outpaced by increases in production of other durable goods, food and beverages and other products.

The beginning of the month marked the final stages of negotiations between United States and China on their trade agreement. This fact was undoubtedly favorably received by investors and stock markets around the world, as constant speculations on terms and conditions, regular blackmailing from both sides over the past two years created uncertainty and contributed to increased risks of a slowdown of the global economy.

Now we can forget about the resumption of this discussion for some time, as the next phase of negotiations will begin after the US presidential election, which will be held at the end of this year. At this stage, the Trump administration has achieved its goals on all issues – China is committed to purchasing $200 billion worth of US products in the next two years, amending legislation in favor of copyright protection and making its financial markets more open. The United States, for its part, has managed to maintain most duties on products from China.

Against the background of the signing of the trade deal, Trump made an effective appearance on the geopolitical arena as well. The president gave the order to attack the main military figure in Iran and, probably, in the entire region. Stock markets, along with oil prices and precious metals, reacted sharply to subsequent media headlines about the outbreak of war, the terrorist threat, etc., but Tehran’s response was sluggish, which allowed the markets to recover quickly and once again confirmed the fact that the fall in the markets caused by hostilities is a good opportunity to “buy the dip”.

High yield market stays flat

January was quite a mixed month for the bond markets. Back end of the month saw a rising concern of the impact the coronavirus would have on company earnings, since much of trade and some manufacturing activity has been put on hold in China. A slight rise in risk premiums across the board versus falling benchmark yields resulted in a flat performance for high yield markets in the US and Europe. The ones that benefitted from that were government and investment grade bond markets. The Bloomberg Barclays US Aggregate Bond index and its European counterpart both gained almost 2% in January.

EUR/USD as an example of consistency

Few things seem to be forever constant and one certainly is EUR / USD exchange rate. Days, weeks and months pass but the numbers on the forex screens show the same picture. In January the currency pair managed touched both 1.1230 and 1.0990 points and now is back to neutral stance at 1.1055. Once again, as many weeks before we keep watching 1.1200 level for upside breakout or 1.0970 for downside breakout of this extremely narrow trading range.

Can we expect a correction in gold prices?

Gold is well supported and is in obvious uptrend since mid-2018. All the bad news seem to be priced in and extreme futures positions confirm that. As before, we think that gold might be sensitive to stock market moves, thus if / when stocks correct lower it might be good for gold prices. Until then most difficult question to answer is can this overbought situation in gold remain without prices correcting lower? Silver keeps the well-established trading range of 19.50 and 17.40 dollars per ounce. January saw silver testing 18.80 high and 17.45 low, so we keep playing XAG / USD 17-19 price range. 16.50 price level would be the first important warning signal.

Federal Reserve suspends bond purchases

The main reason for the correction at the end of January can be found in the actions of the Fed. As you know, since the middle of last year, the Fed has been pursuing an extremely soft monetary policy. After the cycle of reducing the interest rates, we observe a cycle of increasing the Fed’s balance sheet through the repurchase of treasury bonds. From mid-September to the end of December, the financial system received about $400 billion of excess liquidity, which helped the aforementioned growth of the S&P 500 index, as well as other risky assets around the world in the second half of the year. However, already in January, we see that the Fed has suspended the purchase of bonds, although additional liquidity continues to be supported through repurchase agreements. It can definitely be said that if the Fed really reduces (or stops) its monetary stimulation, then the period of volatility will return to the markets.