‘A Lot Has Changed Since This Weekend’: World, Markets Go COVID-Crazy

“A lot has changed since this weekend”, United Airlines CEO Oscar Munoz and President Scott Kirby told employees in a Wednesday memo.

Long story short, United is trimming its domestic and international flight schedule by 10% and 20% in April and implementing a hiring freeze through June 30. The carrier is bracing for what it expects will be a dramatic hit to the travel business from the spread of the coronavirus.

“We certainly hope that these latest measures are enough, but the dynamic nature of this outbreak requires us to be nimble and flexible moving forward”. These amount to the first cost-control measures adopted by a US carrier.

On Wednesday, during a briefing with airline executives, Trump said he hasn’t (yet) had any discussions about providing financial support to the industry, but you can expect to hear much more on this going forward.

In fact, Joel Szabat, the Transportation department’s acting under secretary for policy, told the Senate Commerce Committee’s aviation panel on Wednesday that limiting travel domestically is “now in the playbook”.

“[It’s] something to think about, but I can’t tell you under what circumstances we might consider pulling that trigger”, he said, in response to a question from Montana Democrat Jon Tester.

Not a healthy market

Meanwhile, lawmakers agreed to appropriate nearly $8 billion in funds to combat the spread of the virus. You can read the full bill here. That funding, along with optimism around Joe Biden’s odds of winning the Democratic nomination, were together cited as contributing factors for Wall Street’s mammoth Wednesday gains.

But, as documented here twice throughout the session (here and here), markets are being pushed around by dynamics the vast majority of investors don’t fully appreciate.

Three hours ahead of the closing bell, Marko Kolanovic wrote that “today, we are likely to see a reversal again as option gamma hedgers need to buy into the close”. Sure enough, S&P futures rose an additional 1.4% in the last ~70 minutes of trading. It was something of an encore to Monday’s epic option gamma squeeze into the close.

“Short gamma [is] still clearly a partial culprit behind these extreme, ‘accelerant’ moves in both directions”, Nomura’s Charlie McElligott wrote Wednesday morning.

It’s not so much that it’s all “noise” and no “signal”, it’s just that you have to know what signal to take from it all. Really, the following visual is all you need. Although the chart itself is as simple as simple gets, it’s enough on its own to tell you that systemic/technical drivers are amplifying the action.

“Erratic +4% up days following -3% down days are not traditionally signs of a healthy market”, Artemis Capital’s Christopher Cole remarked.

Fear factor

“The virus epidemic, more specifically the economic impact of preventive measures and fear, remains the key market risk”, Kolanovic went on to say Wednesday, a tacit reiteration of the contention that fear is even more contagious than viruses. And once fear starts spreading, it can have an extremely deleterious effect on markets, especially when combined with the dynamics that are amplifying price action.

The fear factor is likely to increase materially going forward. Five additional infections tied to the New York attorney who became the state’s second confirmed case were announced by Governor Andrew Cuomo on Wednesday. That’s on top of the three family members who are infected and the neighbor who drove him to the hospital.

Meanwhile, an elderly patient near Sacramento died from the virus Wednesday. That’s the first death outside of Washington State and the 11th in the US. California has 51 cases. Health officials in Los Angeles County declared a state of emergency.

SocGen offers this helpful (albeit dour) assessment of what could befall the global economy if this does, in fact, become a full-blown pandemic:

Although difficult to assess, based on the SARS experience in Asia in 2003, a reasonable (albeit somewhat conservative) estimate of the potential hit to global GDP if the current epidemic in China grows into a pandemic would easily be in the order of 1-2% in a quarter and 0.25-0.75% for the full year. But, of course, a longer and even more widespread pandemic could do more damage. Indeed, it stands to reason that should the rate of infection increase, measures that reduce output would increase exponentially as vast swathes of the population are ordered to work from home or, if that isn’t possible, not at all. Indeed, an article published by the IMF in 2014 suggests that “[a] 4.8 percent drop in global GDP is a realistic outcome in a severe flu pandemic”.

The IMF and the World Bank are prepared to contribute a combined $62 billion to combat the disease and, of course, central banks have stepped up to the plate, with the BOC joining the Fed and the RBA in cutting rates this week.

Given all of the above – and especially the bit about the US airlines industry – the following passage from Zoltan Pozsar’s latest in-depth exposition seems even more relevant today than it was just 24 hours ago when it was published:

Consider, for example, an Asian airline that stops having inflows due to reduced demand to fly to, from and across Asia. The initial positive impact on funding comes from the reduced demand for jet fuel — which is also mirrored in the reduced funding needs of commodity houses that would fund the sourcing and shipment of jet fuel for airlines — but the deficits accumulate over time from keeping pilots and cabin crews on payroll, paying the rent on parking spots and gates at hundreds of airports the world over, and servicing the debt that finances the fleet of aircrafts. The longer passengers don’t fly, the longer the planes are grounded, and the more the airline’s dollar deposits are depleted: the airline gradually becomes a deficit agent, like chipmakers above. Hotels are next…

Read more: Zoltan Pozsar Takes On COVID-19: ‘Use The Swap Lines, An Uncapped Repo Facility And QE’