The rally we had on Tuesday and yesterday is a reminder of how the pain could be on the upside too with the biggest moves in recent history. The market now has quickly repositioned itself with some additional losses even on the short side. The multi billion USD CTA that we track lost 1.7% on Tuesday as they are now net short equity markets. Liquidity on the upside is even more challenging than what it is on the downside, yesterday volumes were very low with bid/ask spreads 50% higher vs the last 20-day average. Poor liquidity is exacerbating the market’s moves in both directions.

What do we need now to further stabilize the markets?

While the sign of policy interventions seems to be sufficient to prevent a further shock and Governments are working on some important stimulus plans, the market seems now mainly concern on:

  • A sign that infection rate is reaching a peak. Here there are several theories and curves but it seems that on a global level we are quite fare away from that target at the moment.

Let’s have a look at the most updated virus curve.

Positive cases in New York.

In Italy yesterday we had the 4th positive day in a row in Lombardy with the average growth in total cases around 5.5% with total cases below 8% for the 1st time. However usage of ICU units is at 100%.

  • A sign of economic downturn slowing. Over the past few days, economists and strategists are coming out with forecasts for economic growth, earnings, and asset prices. These forecasts range wildly from 20%, or 50% or 70% declines on any of these measures. In reality, all of the measures forecasted heavily depend on how long the economy will stay shut down in response to the pandemic (estimates range from weeks to months or even quarters). The time to re-start the economy depends on the dynamic of the virus itself and choices politicians and society make in the process
  • Cheap valuations. Trailing Price/Earnings of the S&P is over 15x now. It bottomed at 8x in 2008 and went above 15x only mid-2016 afterwards. It was at 19.5x at the beginning of the year where investors were consensually bullish. The outlook for European corporate earnings has never looked so bad. Analysts who downgraded profit forecasts for firms in the region excluding the UK outnumbered those who upgraded them by the biggest margin on record.

To have a stable bottom we will probably need all of the conditions above to be verified.


There are only 3 working days left for the end of the month and as we explained over the last days, there are several “forced” buyers. The most important are the 60:40 Mutual funds which they will need to buy up to an estimated 300bn$ of global equities and Pension funds which the will need to buy up to 200bn$. If you sum up to these two categories the US defined benefit plans and other smaller categories you could easily be talking of more than 800bn$ in a market that is not liquid enough to absorb that scale of buying.

Central Banks & Government’s actions

The US Senate approved a historic $2 trillion rescue plan putting pressure on the Democratic-led House to pass the bill quickly (vote is expected tomorrow) and send it to President Trump for his signature. The massive legislation passed on a 96-0 vote just before midnight yesterday after days of intense negotiations. The package includes an unprecedented injection of loans, tax breaks and direct payments for major corporations and individual taxpayers to help the US economy. The size of the stimulus package dwarfs the approximately $800 billion Obama stimulus that passed 5 months after the 2008 financial crash.

The ECB is said to be open to activating their most powerful bond-buying tool if needed, Draghi’s OMT (Outright Monetary Transactions) which was designed by Draghi in 2012 and allows the ECB to buy nearly unlimited quantities of a nation’s sovereign debt. Key to OMT is no conditionality, it can do “whatever it takes” to stabilize any country, so very supportive Italy. In the past required much of any country receiving help so not been implemented, now looks like that won’t apply so it really is “whatever it takes”

In Europe, there is talk of using the ESM to fund up 2% of each country’s GDP, not quite the same as the US version and still seems to be some debate amongst EU leaders. The Eurogroup didn’t reach a breakthrough agreement on joint issuance but there was consensus that the ESM should provide all euro area member states the option of drawing on a credit line of up to 2% of its GDP, potentially doubling the current 2% of GDP fiscal response. Discussions are ongoing, more common action may yet be agreed, including at the European Council set for today.

The German government approved to suspend debt brake clauses as part of €750 billion package, after declaring state emergency. The supplementary budget financed by €156 billion in debt, or about 4.5% of GDP, will be used for higher social spending and a €50 billion liquidity fund for self-employed people. The €600 billion rescue fund will be composed by €100 billion in loans through state-run development bank KfW (potentially financed with new debt), €100 billion earmarked for equity stakes in companies (potentially financed with new debt), €400 billion in guarantees. Additionally, the state’s KfW bank has €500 billion available to boost liquidity of companies. It is an historic measure!

Additionally, Europe’s top banking lobby is trying to find common ground among lenders in the region on whether to scrap dividends to conserve capital as the virus causes damage across the economy. UniCredit Ceo Mustier, who currently presides over the European Banking Federation, asked members in a letter for their view on the subject, as calls increase on lenders to use their capital and accounting relief to keep the economy going, rather than reward investors, according to people familiar with the matter. While suspending dividends would disappoint investors, it can free up capital to lend to companies struggling to stay in business amid nationwide lockdowns.

We still see an enormous global shortage of dollars even after the biggest QE ever, several others facilities to flood the market with massive liquidity and $2 trillion stimulus package, which is 10% of US GDP. The global dollar shortage is estimated to be $ 13 trillion now, if we deduct dollar-based liabilities from money supply including reserves. According to the Bank of International Settlements, the outstanding amount of dollar-denominated bonds issued by Emerging and European countries in addition to China has doubled from $30 to $60 trillion between 2008 and 2019. Those countries now face more than $2 trillion of dollar-denominated maturities in the next two years and, in addition, the fall in exports, GDP and the price of commodities has generated a massive hole in dollar revenues for most economies.

Yesterday, the FRA/OIS spread which is an extremely important stress test indicator for US banking system, jumped again, confirming the USD funding freeze is not over yet.

FRA/OIS spread

Fed Balance Sheet

The People’s Bank of China is likely to announce a reduction in its benchmark deposit rate, the first since 2015, currently at 1.5%. Lowering rates on $25 trillion of household and corporate savings would boost bank margins and free up capacity for lenders. Interestingly, a benchmark deposit rate cut could support growth in a number of ways. The primary route is by reducing banks’ funding cost. This in turn can increase their incentives to lend and pass on the recent cuts in the LPR (Loan prime rate) to a wider range of loans. This is important as the government is leaning on the banks to support the corporate sector. Further, lower savings rate may also encourage consumption, which has been hit hard by the coronavirus outbreak.

1-year Loan Prime Rate (black) vs 1-year Benchmark Lending rate (orange) vs 1-year Benchmark Deposit rate (blue)

Separately, China’s $941 billion sovereign wealth fund slashed its risk-parity portfolio by about 50%. It started cutting positions across its multi-asset Risk Allocation Portfolio around the 10th of March and completed the move within a few days.

Bonds & Credit

European leveraged loans plunged to their lowest in more than a decade as a rush for liquidity prompted investors to put at least 1.5 billion euros in holdings up for sale this month. While some funds may be covering redemptions, the aggressive sell-off sparked concerns that managers of collateralized loan obligations may have to unwind some facilities. CLOs account for half of the buyers of Europeans loans.

The number of bonds trading at a spread over 10% (the barometer of distress) neared 1,900 this week from 300 in March, the highest number since 2009. The spread on the entire junk bond index flipped above 10%. To note that the average junk energy bond spread is at about 22% and  the US high-yield default rate is above 10% this year, from 3% last month. In addition, the $1 trillion leveraged-loan segment is trading on average below 80 cents, a level typically associated with distress.

Number of distressed bond traded

It seems that the Chinese credit market have remained insulated by the global market turmoil. Credit spreads for China domestic 5-year medium term notes have tightened during the past weeks, showing that government support has worked pretty well (chart). Further, gross issuance in the domestic corporate market is higher than the previous years.

AAA, AA+, AA spread China domestic 5-year


Also, indicators of banking stress, such as yields on negotiable certificates of deposits and the 7-depo repo rate, are at the lowest levels since 2019. Indeed there has not been an increase in the pace of defaults this year, so far there have been only six new defaults in China since the beginning of the year, below previous’ year average.


We are seeing a surge in demand for physical gold which has created shortages in some geographical locations that is stressing gold markets drastically. The decoupling between gold spot and futures markets is pretty evident now.

Interestingly, the spread between gold spot and futures prices is the widest seen in four years. It seems there is too much demand and too low supply for physical gold at the moment (many refineries are closed). Higher futures prices may mainly be due to the quantitative-easing measures and expectations for fiscal stimulus, a leading indicator of what may be a rush into gold.


Business morale in Germany had its steepest fall in March since the country’s reunification in 1990 as the economy is in shock, with IFO expectations at 79.7 vs 82 consensus. In America, MBA mortgage applications fell 30% last week, the biggest drop since January 2009, home-purchase applications dropped by 14.6% while refinancing applications plummeted 33.8%, suggesting that home sales will slow and that refinancing is coming off a spike.

MBA Mortgage applications