Central Banks Aims to Boost Market Confidence Again

March 2, 2020

| Fullerton Markets

Central Banks Aims to Boost Market Confidence Again">

Market sentiment may reach a short-period’s bottom, long USD/JPY at dip

The worst stock rout since the global financial crisis showed signs of at least a pause on Monday, prompted by optimism that central banks will once again save the day.

On Monday, US futures rose about 0.6% after the S&P 500 Index closed out its worst week since 2008, and European contracts climbed about 2%. Asian trading began Monday with further declines in stocks and gains in bonds, before the Bank of Japan joined the Federal Reserve in issuing a rare statement assuring “appropriate” actions will be taken. In Australia, an interest-rate cut is now seen as a done deal on Tuesday. The US, Australian and New Zealand 10-year bond yields hit fresh record lows. The yen slid.

Investors appeared to shift from fear about the spread of the coronavirus and the economic damage it’s causing to encouragement that policy makers will act. China’s CSI 300 Index rose more than 3% even after that country saw a much deeper contraction in manufacturing than economists had anticipated.

Market expects starting to see more rhetoric from governments to address the situation both from fiscal and central bank easing standpoints. On the epidemic front, the number of cases and deaths outside of China continues to climb. The global death toll has surpassed 3,000. The number of US cases climbed over the weekend, including the first positive case in New York, while cases in Italy and South Korea jumped.

Mr. Powell used similar language last June to indicate the central bank was ready to reduce interest rates if needed after the US-China trade war threatened to aggravate a global slowdown. The central bank subsequently cut its benchmark rate three times, most recently in October to a range between 1.5 and 1.75%.

Fed officials have been trying to avoid either waiting too long to respond to an unclear economic threat or acting too rashly, which could further undermine confidence. By Friday, however, the sharp market selloff and the potential for greater economic disruption from the epidemic spreading in the US prompted Mr Powell to signal a more explicit bias toward rate cuts. The Fed’s next scheduled meeting is March 17-18. Stocks pared their losses somewhat after Mr. Powell issued his statement at 2:30 pm.

Just a few days ago, when the virus outbreak appeared limited mostly to China, investors in interest-rate future markets thought the Fed would cut rates by the summer. Now, as outbreaks have spread to other continents, investors expect the Fed to lower interest rates by at least a quarter percentage point, and possibly more in their March meeting, if not sooner.

Mr. Powell’s statement reflected the same awareness of the scale of potential disruptions that has fallen over markets in recent days, but he didn’t signal how soon the Fed might act. Unlike past crises, this one isn’t primarily economic in origin. Nonetheless, officials are grappling with the prospect that it becomes an economic shock, especially if public psychology around any spread of the epidemic amplifies the disruptions of the virus.

Against that backdrop, while an interest-rate cut wouldn’t address the cause of the downturn, it could soften collateral damage to spending and confidence and speed any recovery once any epidemic is under control. Among the Fed’s challenges: The coronavirus outbreak represents a shock to the economy’s capacity to produce goods and services, or its supply side. Lower interest rates can’t address such supply-side shocks on their own by, for example, allowing quarantined workers to return to idled factories.

But interest-rate policy can help prevent a supply shock from turning into a demand shock in which households and businesses hold off on purchases and investment, and Fed officials are likely to respond aggressively (if needed) to cushion the economy against those forces.

Our Picks

AUD/USD – Slightly bullish.

This pair may rise towards 0.6620 this week amid possible better risk sentiment.

AUD/USD – Slightly bullish.