Defensive on Wuhan coronavirus worries

Markets are on the defensive on a lack of positive news on the Wuhan coronavirus.
Philip Wee, Eugene Leow28 Jan 2020
    Photo credit: AFP Photo

    FX: Defensive on a lack of positive news on the Wuhan coronavirus

    Risk appetite continues to take a hit from growing concern over the Wuhan coronavirus outbreak in the Hubei province. Over the past week, investors sought safety in the Japanese yen and gold. Commodity-led currencies – AUD, NZD and CAD – were amongst the hardest hit from a fallout in commodity prices and a likely hit to China’s 1Q20 growth. Wuhan is in lockdown. Shanghai has extended the Lunar New Year by another week to February 9. Workers will also delay returning to factories in Suzhou by up to a week. Drawing parallels with past health scares, many have generalised the Wuhan coronavirus as a high impact and short-lived event. Even so, China is more integrated with the global economy today compared to SARS in 2003.
    Many Asian and European currencies have not been spared. The Asian countries that have reported cases included South Korea, Taiwan, Vietnam, Malaysia, Thailand, Singapore and Nepal. Mongolia and North Korea, which have no reported cases, have closed off their borders with China. Countries looking to evacuate their nationals from Hubei are Germany, France, Spain, UK, Netherlands, Russia, Morocco, US, Canada and Japan. For now, the lack of positive news flow is likely to keep investors on the defensive. Risk appetite is unlikely to improve until we start getting news that the virus is under control. 
    Rates: Caution reigns        

    Resilience in the US stock indices finally cracked last Friday as market participants start to take the Wuhan virus seriously. All three major indices were down by more than 1.5%. US Treasuries, which had a more pessimistic take on the situation, saw another big rally, driving 10Y yields to 1.60%. The curve bull flattened, driving 2Y/10Y spreads to just 17bps. Other developments of note in the USD rates space include the inverting of the 2Y/5Y segment and the re-establishing of Fed cut bets for late-2020.
    Judging by the SARS experience of 2002/03 (see Macro Strategy, January 22), it may take a few months before the greater clarity on the virus impact is known. Meanwhile, the default strategy is to take some risk off the table, driving DM yields down in the process. We see downside risks to our US yield forecasts. While we had anticipated the electronics recovery, the negative economic impact of the Wuhan virus would probably keep yields lower for even longer. If the situation worsens, the next level of support for 10Y yields would be around 1.45%.

    At this point, we are not unduly worried negative spillover unto Asia govvies (especially the higher yielders). Some position shakeout took place, and this is probably more obvious in Indo govvies where yields spiked on Monday after an extended rally this year.  Growth dynamics (and downside risks from the Wuhan virus) suggest that Indonesia’s policy settings will be accommodative for some time.  

    Philip Wee

    FX Strategist - G3 & Asia

    Eugene Leow

    Rates Strategist - G3 & Asia

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