At the beginning of the week, uncertainty was noted on the financial markets, both on the stock, bond and currency markets, which could also be shown by an increase in risk aversion, a return to safety and a potential increase in implied volatility. Probably few thought that the catalyst for these events could be, unfortunately, a deadly virus, and from macroeconomic factors it could be a cut in IMF growth forecasts.
On Tuesday, January 21, in the morning we can see the strengthening of the Japanese yen, an increase in futures contracts on US bonds, a decline in contracts for stock indices along with the increase in the contract for the fear index VIX, which briefly may illustrate the expected volatility from options on the S&P500 index. So this may show that investors could be returning back to safety. One of the reasons for this seems to be the spread of coronavirus in China that causes pneumonia. The number of victims of this virus has increased to four people, and according to the state press agency Xinhua, an additional fifteen health care workers have been infected, of whom one is in a critical condition. It seems that the virus can spread from person to person more easily than previously thought, which only increase worries that it can spread to other Asian countries.
In the currency options market, an increase in expected volatility for the USD/JPY pair has been observed, which has recently fallen to record low levels. If the virus continued to spread, it seems that the yen could strengthen. Also investors in the options market for raised the demand for options hedging against a potential fall in the USD/JPY rate in the one month period. Yen is also not weakening at this time by the head of the Bank of Japan, who said that he will not hesitate to increase monetary easing if the risks increase. The Bank of Japan will continue its massive easing until the inflation target is reached. Haruhiko Kuroda's statement came after the Bank of Japan's decision on interest rates that remained unchanged.
Turning to the forecasts of the International Monetary Fund, they show that in 2020 the global economy will grow by 3.3 percent from 2.9 percent in 2019, however, it will be less than previously assumed in October. At the time, the forecast assumed an increase of 3.4 percent. Nevertheless, this will be the first increase in GDP growth in three years - if the IMF forecast comes true. In turn, for 2021, the growth forecast was lowered by 0.2 percentage point for the world. The US economy is expected to grow by 0.1 pp slower in 2020. In turn, the 2020 growth forecast for Japan and China has been raised by 0.2 pp.
To sum up, a new, unexpected and erratic thread appeared on the markets, in addition to the well-known theme of trade war, economic slowdown or monetary policy. Therefore, due to the nature of the event, anxiety may persist, and thus fear and expected volatility may be increased.
Daniel Kostecki, Chief Analyst Conotoxia Ltd.
Materials, analysis and opinions contained, referenced or provided herein are intended solely for informational and educational purposes. Personal opinion of the author does not represent and should not be constructed as a statement or an investment advice made by Conotoxia Ltd. All indiscriminate reliance on illustrative or informational materials may lead to losses. Past performance is not a reliable indicator of future results.
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