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Traders are so fixated on the coronavirus that, in the absence of compelling reasons to do otherwise, they’re piling into hedges in case the contagion is a disaster for the global economy.
Much of the activity involves bets that the Federal Reserve will feel increased pressure to reduce interest rates. A flurry of eurodollar options trades emerged this week that profit if the central bank delivers more than the one-to-two quarter-point cuts already priced in for 2020.
During the holiday-shortened week ahead, there’s little in the calendar of events that looks likely to pull investors away from virus headlines.
“The impact of the virus on the global economy is going to be significantly more than what people are expecting, and when the global economy goes south, the Fed steps in,” said Tony Farren, managing director at broker-dealer Mischler Financial in Stamford, Connecticut.
Farren is paying more attention than usual to Australian data, given the country’s dependence on China, seeking clues about any spillover effects from the virus called Covid-19. A March rate cut by the Fed would surprise him, “but June is possible and poor economic data in the summer would open the door to cuts in September and possibly December,” Farren said.
Minutes of the Federal Open Market Committee’s Jan. 28-29 meeting, to be released Wednesday, cover a period in which policy makers were still monitoring the virus originating from China.
A more real-time view -- Treasuries trading from the past few days -- shows market participants are worried about the economy’s prospects. A flight-to-quality move ahead of the three-day weekend drove the widely watched spread between 2- and 10-year yields to the flattest level since November.
Strategists at Deutsche Bank AG and Credit Suisse Group AG argue the Fed could be forced to cut rates by July.
Citigroup Inc.’s Calvin Tse is bracing for markets to price in a preemptive March reduction. This week he recommended a trade involving the overnight index swap dated around the March 17-18 meeting of Fed policy makers. The swap only implies a slight chance of easing. But if those odds increase, “this trade can make a lot of money,” he said in an interview.
What to Watch
- U.S. markets are shut Feb. 17 for Presidents Day. Macro highlights in the holiday-shortened week include Tuesday’s report on foreign ownership of U.S. Treasuries and Wednesday’s release of minutes from Fed policy makers’ January meeting
- Here’s the economic calendar:
- Feb. 18: Empire State manufacturing survey; NAHB housing market index; TIC flows
- Feb: 19: MBA mortgage applications; housing starts; building permits; producer prices
- Feb: 20: Philadelphia Fed business outlook survey; initial and continuing jobless claims; Bloomberg national economy expectations; Bloomberg consumer comfort; Conference Board leading index
- Feb. 21: Markit U.S. manufacturing PMI; existing home sales
- Fed communications:
- Feb. 19: FOMC minutes; Atlanta Fed’s Raphael Bostic; Cleveland Fed’s Loretta Mester; Minneapolis Fed’s Neel Kashkari; Dallas Fed’s Robert Kaplan; Richmond Fed’s Thomas Barkin
- Feb. 20: Barkin
- Feb. 21: Kaplan; Governor Lael Brainard; Bostic; Vice Chair Richard Clarida; Mester
- And the auction schedule:
- Feb. 18: $45b of 13-week bills; $39b of 26-week bills; $40b of 21-day cash management bills
- Feb. 20: 4- and 8-week bills; $8b of 30-year TIPS
--With assistance from Edward Bolingbroke.
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