Coronavirus Update: As Market Volatility Continues, Fiscal Response Looms Large

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Yesterday’s trading session was a bloodbath. The S&P 500 Index® matched the MSCI All Country World Index in magnitude of decline, as both benchmarks gapped down 7.5%. High yield credit spreads widened to 660 basis points, and now reflect a similar amount of stress to the market correction in early 2016. West Texas Intermediate crude oil closed at $31 per barrel, a whopping 25% decline from last Friday as the OPEC+ (Organization of the Petroleum Exporting Countries) meeting fell apart without any production cuts, and Saudi Arabia and Russia kicked off a new price war. 10-year U.S. Treasury yields briefly touched 32 basis points, and markets now price the U.S. Federal Reserve to cut rates back to the zero lower bound by mid-year.

The developments in energy markets were perhaps the biggest surprise and present mixed implications for the macro outlook. While cheap oil can boost the effective spending power of households across the developed markets, it can also severely strain the balance sheets of energy producers and impact those firms’ hiring and capex decisions. Energy producers were already under pressure from slowing demand for crude oil as households and businesses cut back on their travel plans. This new, fundamental stress on the energy sector and related credits was important and was widely attributed to be the catalyst for the sharp re-pricing yesterday. In effect, it added another pressure point onto a sector and global economy that already faced considerable short-term uncertainty from the coronavirus.

Key watchpoint: Potential fiscal response

One of the keys to the outlook here is the ability of businesses to get to the other side of potentially acute short-term cash flow problems. Fiscal policy holds the necessary antidotes in its ability to provide targeted, material support to impacted sectors. But it can also take time to build a consensus and legislate these programs. Investors will be watching how and how quickly fiscal policy makers in the United States and around the world are able to respond to this twin threat. We believe their objective should be—as quickly as possible—to put in place backstops that allow impacted businesses to weather the slowdown that we know is under way.

What could a fiscal response look like?

History is ripe with examples of disaster relief. Following the terrorist attacks on Sept. 11, 2001, the U.S. Congress quickly passed the Air Transportation Safety and System Stabilization Act—which, among other things, gave airlines a cash infusion and authorized the government to offer direct loans and loan guarantees to distressed air carriers. Similarly, starting in late 2008, the U.S. government bailed out the domestic automobile industry. We suspect the U.S. government will not allow widespread the energy industry to go bankrupt based on decisions that were made by a cartel in Vienna.

The timing and details of these programs matter. We will be evaluating what the U.S. administration brings to the table later today and what other governments have already announced and continue to announce in the days and weeks ahead.


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