Recession Ahoy?

“The global manufacturing sector suffered its steepest contraction since 2009 as demand, international trade and supply chains were severely disrupted by the COVID-19 outbreak”, the commentary accompanying a 47.2 print on JPMorgan’s Global Manufacturing PMI reads.

That’s the lowest reading on the gauge since May of 2009, and represents a more than 3-handle drop from January’s 50.4. Output plunged to 43.5.

“Output fell across the consumer, intermediate and investment goods industries [and] manufacturing production and new orders registered their sharpest declines since April 2009”, the release goes on to lament.

The headline print is bad, but, as you can see from that visual which JPMorgan helpfully includes in the release, saving me a few minutes of Excel time, the plunge in the output index is particularly harrowing.

“The global manufacturing output PMI collapsed over seven points in February to 43.5, the second-largest monthly decline recorded going back to 1998″, the bank’s Olya Borichevska notes, adding that “at this level, the PMI implies a contraction in global IP around a 5%ar pace”.

Of course, that’s not guaranteed, and a good portion of the slump is attributable to China, but nevertheless, this draws a bright, red line underneath the burgeoning global malaise precipitated by the containment measures associated with the virus. This comes on a day when the OECD slashed its outlook for global growth by half a percentage point.

US equities were on a tear during morning trading thanks in no small part to expectations of central bank accommodation, as policymakers rush to craft a coordinated message. In addition to statements from the Fed (Friday), the BOJ, BOE and the ECB, central bankers are set to join Group of Seven finance ministers on a teleconference tomorrow to discuss how best to respond to the threat posed by the epidemic, which has claimed more than 3,000 lives globally.

Market angst is running high, that’s for sure. The sharp slump in equities and a widening in credit spreads suggests investors are becoming more concerned about the potential for the virus to trigger a recession.

“The simplest way to assess how much of a US recession is priced in is to use the average 26% decline in the S&P500 index over the past 11 recessions”, JPMorgan wrote, in a note out late last week. “So far the S&P 500 has declined by 15% from its peak, so equity markets price in a 15/26=57% chance of an average recession”.

(JPMorgan)

Deutsche Bank flags the 3-month/10-year curve and the Fed forward spread in cautioning on the apparently higher odds of a domestic downturn.

“Two yield curve slope recession indicators Fed research has highlighted in the past have returned to deeply inverted territory, consistent with about 50-50 recession risks over the next year”, the bank says.

(Deutsche Bank)

Whether or not policy easing can avert a slump has been the market’s perpetual topic du jour over the past three years, as trade worries and geopolitical tumult weighed on sentiment.

In 2020, the trade war simply passed the baton – now, it’s COVID-19’s turn to cast a pall over things and test central banks’ mettle.

“The willingness of policymakers to respond to the potential fallout from the coronavirus has buoyed global equities as this week gets underway, though the focus will quickly shift toward judging the effectiveness of monetary policy in combating a global health emergency”, BMO’s Ian Lyngen, Ben Jeffery, and Jon Hill wrote Monday.

Here are the recession probabilities priced in by different assets as of February 28th (on JPMorgan’s modeling):

If you’re skeptical of monetary policy’s ability to combat and otherwise offset a biological threat, you’ll be forgiven.

“Investors’ apprehension that even Powell’s best efforts will be able to reverse the nCov impact is certainly warranted”, BMO went on to say. “Central banks only have a limited set of tools to employ in an effort to avert a global recession”.