Our planet, third rock from the sun
Has clearly now been overrun
By Covid-19
Whose spread is unseen
And cannot be fought with a gun

It is certainly difficult, these days, to keep up with the latest narrative about how quickly the virus will continue to spread and when we will either flatten the infection curve or will get past its peak. Every day brings a combination of optimistic views, that within a few weeks’ things will settle down, as well as pessimistic views, that millions will die from the virus and it will be many months before life can return to any semblance of normal. And the thing is, both sets of opinions can come from reasonably well-respected sources. Adding to the confusion is the fact that there is still a huge political divide in the US, and that many comments are politically tinged in order to gain advantage. After all, while it has not been the recent focus, there is still a presidential election scheduled for November, a scant seven plus months from now.

With this as the baseline, it cannot be that surprising that we have seen the extraordinary volatility present throughout markets in recent weeks. And while volatility may have peaked, it is not about to fall back to the levels present two months ago. In fact, the one thing of which I am certain is it will take a long time for markets to settle back into the rhythms that had seemed so pleasing and normal for so many years.

Something else to note is that while central banks seem to have been able to positively impact market behavior in recent days, the cost of doing so has gone up dramatically. For example, during the financial crisis, the widely hated TARP bill had a price tag of $700 billion, clearly a large number. And yet that is one-third of what the present stimulus bill will cost. And the Fed? Well it took them three months in 2008 to expand their balance sheet by $1 trillion. This time it took less than three weeks. And they are not even close to done!

It is the latter point that brings the greatest risk to markets, the fact that the cost of addressing market failures has grown far faster than the global economy. This is a result of the serial bubble blowing that we have seen since October 1987, when the Maestro himself, then Fed Chair Alan Greenspan, promised the Fed would support markets and not allow things to collapse. That inaugurated a pattern of central bank behavior that prevented markets of any kind from clearing excesses because the political fallout would have been too great. But as we have seen, each bubble blown since has had a larger and larger price tag to overcome. The question now is, have we reached the limits of what policymakers can do to prevent markets from clearing? Certainly, they will never admit that is the case, but much smarter people than me have made the case that their capabilities have been stretched to the limit.

It is with this as background that I think it makes sense to discuss what we have seen this week alone! Using the S&P 500 as our proxy, we saw a sharp decline on Monday, over 4%, and then a three-day rebound of nearly 18%! In fact, from its lows on Monday, the rebound has been more than 20%. Many in the financial press have been saying this is now a bull market. My view is that is bull***t. A bull market needs to be defined as a market where prices are rising on the back of strong underlying fundamentals and where long-term prospects are strong. The recent fixation on 20% movements as defining a bull or bear market are completely outdated. Instead, I think the case is far easier to make that we are ensconced in the beginning of a bear market, where the long-term, or at least medium-term, fundamentals are quite weak and prospects are uncertain, at best, and realistically quite negative for the coming quarters. Declaring a bull market on the same day that Initial Unemployment Claims printed at nearly 3.3 million, far and away the highest in history, is ridiculous! I fear that the movement this week in stocks and the dollar, is not the beginning of a new trend, but a reactive bounce to previous price action.

Turning to the dollar, after a remarkable rally in the buck throughout the month of March, it too has fallen sharply during the past several sessions. The proximate cause was the Fed, which when it announced its laundry list of new programs on Monday evening was able to calm immediate fears over a lack of USD liquidity. It appears that the dollar’s two week run of strength was driven by global fears over a shortage of dollar liquidity available coming into quarter end next week. We saw this in the movement of basis swap spreads, which blew out in favor of dollars, and we saw this in the FX forward market, where every price that encompassed the turn was no longer linearly interpolated. But the Fed has thrown $5 trillion at the problem and for now, that seems like it is enough, at least for this quarter. Markets have settled, and the fear over coming up short of dollars has abated for the time being.

But this is not over, not by a longshot. Navigating the next few months will be quite difficult as we are sure to see more negative news regarding the virus, followed by policy attempts to address that news. Until a solid case is made that globally, the peak of the infection curve is behind us, we are going to remain in a tenuous market state with significant volatility.

Finishing with a brief look at the dollar this morning, it is actually having a mixed session. In the G10, NOK continues to be the most volatile currency by far, down 1.3% this morning after an intervention led 14% rally in the past week. Of course, that was after it fell nearly 29% in the previous two weeks! And you thought only EMG currencies were volatile! But the rest of the G10 space shows JPY strength, +0.9%, as repatriation flows help the currency, and then much lesser movements in both directions from the rest of the bloc.

In the emerging markets, the story is similar, with KRW the biggest gainer, +1.8% overnight, as the BOK confirmed its recent activity qualifies as QE, and more importantly, that they will continue to do everything necessary to support the economy. Meanwhile, on the opposite end of the spectrum is the Mexican peso, which has fallen 1.5% this morning after Standard & Poor’s downgraded the country’s credit rating by a notch to BBB and left them on negative watch. The peso, too has had a wild ride this month, declining nearly 6 full pesos at its worst level, or 30%, before rallying back sharply this week by 10% at its peak, now more like 8.2%. Again, the point is that we can expect ongoing sharp movements in both directions for now.

With spot today being month-end, I realize many companies will be active in their balance sheet rolling programs. Forward bid-ask spreads continue to be wider than normal but have definitely moderated from what we saw in the past two weeks. This is the new normal though, so for the next several months, be prepared for wider pricing than we all learned to love.

Good luck, good weekend and stay safe
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