- News from China showed that the economy is rebounding.
- News from the EU was dour, but that's not surprising.
- While the China and Brazil recommendations didn't perform well, it's still too early to take them off.
Investment thesis: Most of the markets are still far too speculative to make any kind of investment. We're starting to get the economic reports about the severity of the damage and it is severe. However, the China and Brazil trades from last week are still attractive for now.
The latest Markit PMI for China shows a modest contraction in manufacturing (emphasis added):
The headline seasonally adjusted Purchasing Managers’ Index™ (PMI™)–a composite indicator designed to provide a single-figure snapshot of operating conditions in the manufacturing economy –slipped from 50.1 in March to 49.4 in April, to indicate a renewed deterioration in operating conditions. That said, the decline was marginal and much softer than the record pace seen in February when many firms closed down to stem the spread of the virus.
Here's a chart of the data:
Notice how quickly the data bounced back to near the 50 level that separates expansion and contraction. New orders were at their lowest level in three months while employment dropped and backlogs increased. The primary problem is the drop in new export orders, which is shown in this chart:
China was the first country hit by the pandemic; it shut down its economy about a month to a month and a half before other regions. The drop in export orders is caused by that four-to-eight-week delay. I would expect it to bounce back within the next few months.
The Bank of Japan released its latest summary of economic projections and economic outlook, which contained the following observation about the long-term risks to the economy (emphasis added):
The second risk is firms' and households' medium-to long-term growth expectations. If such expectations decline, triggered mainly by the spread of COVID-19 becoming prolonged, there is a risk that their appetite for spending will not increase easily even after the spread subsides. On the other hand, medium-to long-term growth expectations could increase if the issue of COVID-19 leads to an active use of various types of information and communication technology in the face of the restrictions on going outside, thereby having positive effects on the field of digital technology, such as further innovation.
While the first concern has been implied in the financial press, it hasn't been explained this well. The current thinking about the pandemic appears to be that it is largely a March-June period of aberrant economic activity that will naturally resolve itself by mid-3Q20. Assuming that to be the case, the consensus forecast is for a 2H20 economic rebound. But the longer this goes on, the more pronounced the negative impact of sentiment, which will have a negative impact on consumer and business spending.
This is the first time I've seen the second observation and it's a very interesting point to make. The BOJ is arguing that should the outbreak continue for an extended time, the global economy would be forced to completely rethink itself using "information and communications technology" as central components of that transformation. It doesn't say what this will look like, only that technology would enable it to happen.
Russia released two coincidental economic data points. 1Q GDP rose 2.1% Y/Y in 1Q20 while retail sales increased 5.6% Y/Y in March. Neither data set includes lockdown information, so the only thing they really show is that the Russian economy was in fair shape before the lockdown.
EU GDP contracted 3.5% Y/Y in the first quarter:
There is also new information from the largest EU economies:
- German retail sales declined 2.8% Y/Y in March
- German unemployment was 3.5% in March
- French GDP dropped 5.8% Q/Q
- Italian GDP dropped 4.75% Q/Q
Today, not only did the ECB add a number of new programs to support liquidity, they also issued a new "whatever it takes" statement (emphasis added):
The Governing Council is fully prepared to increase the size of the PEPP and adjust its composition, by as much as necessary and for as long as needed. In any case, it stands ready to adjust all of its instruments, as appropriate, to ensure that inflation moves towards its aim in a sustained manner, in line with its commitment to symmetry.
Don't be surprised to see additional facilities in the future.
Statistics Canada released a flash estimate for March GDP:
The flash estimate for GDP indicates a decline of approximately 9% in March. Even though the basis of calculation is different, in a relative sense, this would be the largest one-month decline in GDP, since the series started in 1961. Overall for the quarter, this flash estimate of GDP leads to an approximate decline of 2.6% for the first quarter of 2020.
Let's look at this week's performance table:
Last week was a stellar week for Latin America: the ETF that tracks the region was the best performer, gaining 7.31%. Brazil rebounded from its sell-off, taking on a gain of 6.41%. A majority of the indexes were up or down modestly. China was the worst-performing sector; it was down 2.28%.
Last week, I noted that traders with a high risk appetite might want to consider going long China or short Brazil. Both markets did the exact opposite.China was breaking out very nicely - until there was new talk of trade sanctions and heightened tensions between it and the US. There was also an uptick in hostilities between the mainland and Australia, as that country argued there should be an international investigation of the virus outbreak.Brazil rallied during the first part of the week but sold off on Thursday and Friday.
I'd hold on to both for at least another week with a sell-stop on the China position just in case there's a sudden uptick in the war of words.
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