- QE and a big Fed liquidity injection help stabilize the credit markets,
- QE4 begins?
- Fed could cut rates as soon as today if the stock market debacle continues
- ECB’s expansion of its QE program is marred by lack of a rate cut and minor Lagarde gaffe
- U.S. consumer sentiment report will be watched carefully but it still lags
QE and a big Fed liquidity injection help stabilize the credit markets— The U.S. stock market plummeted on Thursday as the markets worried about the quickly expanding scale of the coronavirus crisis and the dithering in Washington on a fiscal package to address the crisis.
The markets on Thursday became increasingly worried about the forecasts by some experts that there will be deluge of U.S. coronavirus cases in the next several weeks, along with an overload of hospitals, possibly like what is currently being seen in Italy.
The Fed on Thursday launched a bazooka of short-term liquidity by offering $1.5 trillion worth of repos for Thursday and Friday, in addition to its regularly-scheduled repos. Prior to the Fed’s action, the markets were starting to worry about a systemic breakdown of funding markets. Liquidity was reportedly thin in the Treasury market and the corporate bond market is being pummeled. The Fed’s liquidity injection settled down the credit markets somewhat but gave only a temporary boost to the stock market.
The S&P 500 index (SPX) on Wednesday fell to a new 14-month low and closed the day sharply lower by -9.51%. On yesterday’s low, SPX fell by a total of -27.0% from the mid-Feb record high, easily qualifying as a bear market by falling by more than -20%. The Nasdaq 100 index on Wednesday posted a 9-month low and fell by a total of -25.4% from its mid-Feb record high.
The VIX index on Thursday rose to a new 11-1/4 year high of 76.82 and closed +21.57 at 75.47. The VIX closed only 14.06 points below the record high of 89.53 posted in November 2008.
QE4 begins? — The Fed yesterday began what might become QE4. The Fed announced that it will start buying the full maturity spectrum of Treasury securities instead of just T-bills at the $60 billion per month purchase program that it has been running since October.
The Fed might end up buying coupons for only a month or two during a period of market instability and then revert to T-bill purchases, in which case the Fed would deny that QE4 ever happened. However, if the Fed continues its $60 billion/month program indefinitely and keeps buying coupons, then the Fed will in fact have embarked on its fourth quantitative easing program.
Fed could cut rates as soon as today if the stock market debacle continues — The Fed is unanimously expected to slash its funds rate target at its meeting next Tuesday and Wednesday (March 17-18). However, the Fed could accelerate its timing and make an emergency cut today if necessary to calm any new plunge in the stock market or systemic stress in the funding or corporate bond markets.
The fed funds futures market is indicating an implied yield of 0.148% for next week’s FOMC meeting, which reflects a 100% chance of a 75 bp cut to 0.50%/0.75% (from the current target mid-point of 1.125%) and a 91% chance of a full 100 bp cut to 0.00%/0.25%. We suspect the FOMC will give the market what it needs and make the full 100 bp cut all the way to the post-crisis level of 0.00%/0.25%. The markets are in no mood for the Fed to cut by -75 bp and play games with a last -25 bp rate cut.
ECB’s expansion of its QE program is marred by lack of a rate cut and minor Lagarde gaffe — The ECB on Thursday essentially admitted that its deposit rate can’t be cut any farther into negative territory because that would only raise the cost for banks to hold reserves and further damage their profit margins. The ECB at its meeting on Thursday left its deposit rate unchanged at -0.50%, defying market expectations for a -10 bp cut to -0.60%.
However, the ECB did pleasantly surprise the markets by boosting its QE program by announcing that it will buy an additional 120 billion euros of securities through year-end, adding to its regular QE program of 20 billion euros per month. The ECB also cut the interest rate on its targeted loan program to banks by -25 bp to -0.75%, which will encourage banks to provide more funding to businesses and consumers.
ECB President Lagarde in her press conference committed a gaffe by saying that it isn’t the ECB’s job to narrow country spreads. While technically true, the markets wanted to hear more of a “whatever it takes” attitude from Ms. Lagarde since some peripheral bond yield spreads have soared due to increased coronavirus risks. For example, the Italian 10-year bond yield spread over Germany spiked to a 9-month high of 250 bp yesterday, up by about 120 bp from the 130 bp level seen just a month ago. There are worries about Italy’s deteriorating fiscal outlook due to pandemic costs.
U.S. consumer sentiment report will be watched carefully but it still lags — The consensus is for today’s preliminary-March University of Michigan U.S. consumer sentiment index to fall sharply by -6.0 to 95.0. Consumers weren’t particularly worried about the coronavirus in February since the consumer sentiment index rose by +1.2 to 101.0. Consumers probably didn’t start paying much attention to the coronavirus until the S&P 500 index started plunging in the last week of February.
Today’s report for early March will capture more of their concern, but still not to the full degree reflected by this week’s momentous events such as yesterday’s near free-fall in stocks and the cancelation of nearly all professional and college sports in America, including March Madness. Despite poor consumer sentiment in March, consumer spending will temporarily spike higher since consumers have been stocking up on essential supplies.
