The U.S. Market Indices have traditionally been the leading indicators when it comes to investors looking for a global trend or trying to capture the reactions and sentiments of fellow investors. From what investors can conclude as a mix of strong corporate earnings, stock buybacks, easy fiscal policy and an investor-mentality of having the will to “buy-the-dip”, the U.S. stock market experienced its longest bull run in American history. An 11-year-long bull market found the U.S. boasting about its 339% gain on the S&P500 along with annualized returns of 15.3% in 2019. Unfortunately, the optimistic moods of investors acted as a distraction from a much bigger threat; the potential ramifications of the coronavirus, which at the time was a growing concern in China.
On 02/19/2020, panic began to creep into the market as investors became aware of the global impacts of coronavirus. The days shortly following saw the S&P500 decline:
- 02/20/2020: -12.92 (-0.3%)
- 02/21/2020: -35.48 (-1.05%)
- 02/24/2020: -111.86 (-3.35%)
- 02/25/2020: -97.68 (-3.028%)
- 02/26/2020: -11.82 (-0.3778%)
- 02/27/2020: -137.63 (-4.42%)
This relentless downward spiral in the S&P500 index caused the VIX (CBOE Volatility Index) to climb 164% from 14.83 to 39.16 over a period of 9 days (02/19/2020 – 02/28/2020) and by 458% from 14.83 to its highest value since inception of 82.69 over a period of 26 days (02/19/2020 – 02/16/2020).
As the virus spreads to the U.S., tight restrictions such as isolations have been implemented. Albeit such regulations have been enacted, the U.S. is now the leading nation with the highest number of recorded cases and the confirmed number of deaths is expected to double every 3 days. Such drastic statistics have found individuals, investors and business owners fearful of the future and due to the lack of predictability, investment opportunities have been declined and consequently, business operations have shrunk. This reduction in spending has translated both to individuals who now buy essential items only (such as staple products & healthcare items), and to companies, which have cut jobs and reduced operations.
In essence, the market has frozen. There is no money circulating and hence there is no economic stimulation.
The Federal Reserve.
This is a situation the U.S. is fortunate enough to be familiar with. It’s for this reason that the U.S. Treasury and the Federal Reserve have been extremely cautious about their decisions and have followed a similar procedure to what they did in the 2008/2009 GFC.
The Federal Reserve initiated its economic recovery plans on 03/15/2020 by reducing the interest rates by 1% (which now lies 0% – 0.25%). On average, the Federal Reserve have cut interest rates by 5% in past recessions, however having entered this crisis with a very low interest rate of around 1.5%, the Federal Reserve has effectively run out of ammunition in terms of using interest rates.
The Federal Reserve also plays another major role as the Lender of Last Resort. In this role, the Federal Reserve is responsible for the issuance of sufficient capital to ensure that the business in banks runs smoothly and consequently, on 03/12/2020, the Federal Reserve announced and injection of $1.5 trillion to prevent unusual repo market disruptions and ensure a smooth business operational flow.
In combination with the above, to ensure that there is sufficient liquidity in the markets, on 03/23/2020, the Federal Reserve issued a statement describing how it will purchase “$375b in Treasury Securities” and “$225b in Mortgage Backed Securities (MBS)”. By doing so, the Federal Reserve will prevent an increase in mortgage rates as banks will have enough capital to run its operations, allowing for easier and cheaper loan-borrowing options for individuals and businesses.
Banks also have the option to borrow money from the Federal Reserve and on 03/15/2020, the Federal Reserve reduced the discount window by decreasing the discount rate to its upper target range (Federal Funds Upper Target Range) of 0.25% and by increasing the loan duration – both of which contribute to an easier way to make repayments.
In most recent events, the Federal Reserve has signed a record $2.2 trillion economic rescue package, which mainly involves individual direct payments.
By accounting for the impacts of coronavirus as well as the measures the Federal Reserve implemented, there is an extremely mixed reaction from investors, however with markets continuing to fall, this does imply a negative response.
At the forefront of the minds of investors should be whether a nation can survive alongside the possible threats of coronavirus, and if so, to what extent?
Blog article written by Divik Nigam, Research Analyst, Maqro Capital