Asia Open: Markets expected to plunge as trade reopens

Market Analysis /
Stephen Innes / 03 Feb 2020

PBoC Policy 

I expect China markets open up very unfavorably to the tune of around 8%, which the A-shares are implying. But it's not the earthquake at the open but rather the aftershocks that will drive risk sentiment today. 

Honestly, I have no idea where the market is going to end up this week, but I think market conditions will get worse before improving. However, I will listen and react accordingly. Nor do I have any clue what's going to happen with regards to the spread of the virus. If someone tells you they do, don't listen.

The situation is terrible, and China's economy will be dealt a bad blow. As will ASEAN countries that have built significant trade ties with China, even more so those countries that are tourist destination spots and service providers to Chinese tourists, they will be dealt the nastiest blow of all.

And while we may be several months away from a vaccine or a plateauing in cases, but the markets can stabilize well before - as it did during the 2003 SARS episode. Traders are patient but ready to pounce with something to fade the fear when the time is right.

With regards to the PBoC cash injection, of course, many pundits will say that it's inadequate, they could be right, again I'm not sure. But if the market continues to sell off despite the PBoC layering a salve of tiger balm on the market USD 170 billion US thick, I'm sure of one thing at least, the markets are going to have a bad day, Even if the net effects of the injections  will be much lower, as CNY1.05 trillion  of reverse repo is scheduled to mature as well. The PBoC will most likely step up liquidity injections for the rest of the week.

But this is only the first step in PBoC effort to both stabilize and stimulate the economy. But off course, we should then expect a chorus of negative responses suggesting that you can't simulate an economy with Cities locked down in quarantine. Sure, I agree with that as a monetary policy deluge or fiscal policy stimulus for that matter doesn't work with everyone burrowed in their apartment.

But if you think the Chinese government will roll over and accept defeat and allow the economy to sink without throwing everything, including the kitchen sink at it, that's where we have a parting of ways.

The PBoC will provide re-lending funds of CNY300bn to national banks and local banks in the worst-hit regions of the outbreak, and the banks will then grant credit support at favorable interest rates to key manufacturers of medical supplies and daily necessities

Most of the measures that have been announced are targeted at resolving the immediate problems facing the real economy and market, and it's still a bit too early to consider them as large-scale easing. The elusive policy deluge or significant interest rate cut could come in the following days as more information is gathered about the virus effect on the real economy.

Oil markets

If there was a headcount trade out there, it has to be oil markets as the more people affected and shuttered by the flu, the less demand for oil. But the most damaging immediate effects are getting felt from the number of airlines canceling flight into China that are toppling like dominoes as lost demand the Oil producers can't be made up. Indeed, the Oil market has caught more than a case of the sniffles. China's larger oil market footprint (5.7 MMB/d in 2003 vs. 13.9 MMB/d today) raises the potential for enormous demand devastation given China's current oil demand profile in comparison to the SARS epidemic era.

Although oil bulls are hoping that an early OPEC meeting (February instead of 5 March) translates into greater supply discipline

But this is by no means certain given OPEC's current low level of output and the consensus among OPEC ministers who believe the market impact will be smaller than the current level of market fear priced into the equation. 

Regardless of the outcome of the 2019-nCoV epidemic, oil prices may have further to fall and will generally remain under downside pressure due to the toxic combination of the current level of extreme demand destruction and excess non-OPEC supply.

Currency markets

If it's a risk-off market, why isn't the Yen stronger. Echoing last week's comments, Japan's surplus (and Japanese business cycle) has increasingly become dependent on China flows starting in 2018. Since the growth shock is clearly coming from China – fewer capital inflows into Japan and less JPY strength than "normal." That's the JPY side of the equation. If you are a US$ bear, you need to start factoring in Bernie Sanders effect as the market is setting the stage for a return to the US dollar selling triggered by US election risk. More specifically, Bernie Sanders dramatic rise in the polls.

Gold markets 

The mortality rates are not standing out , and as such, the virus headcount effect is not causing extreme panic in the market, and there could be some position squaring on a less severe sell-off when China opens. But frankly, I’m still of the view the virus fears will get worse before better.  And improving Gold odds of taking out $ 1600/oz  is the bearish shift lower in US bond yields, the Fed reactionary dovish impulse to deflationary concerns, and the US election risk-averse knock-on effects on the USD dollar and the S&P 500 all but suggest Gold will continue to be hoovered up on dips 

The information is not to be construed as a recommendation; or an offer to buy or sell; or the solicitation of an offer to buy or sell any security, financial product, or instrument; or to participate in any trading strategy. Readers should seek their own advice. Reproduction or redistribution of this information is not permitted.



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