It Could Get Worse

It “could get worse”, an exhausted-looking Donald Trump conceded, while declaring a national emergency Friday afternoon, as part of the administration’s efforts to combat the spread of the coronavirus.

You could say the same thing for beleaguered stocks, which, despite a truly breathtaking late- Friday rally, still suffered their second-worst week since the crisis stateside.

Hopes for stimulus tied to the emergency declaration, hedge monetization, short covering and your standard, late-session, “up”-day squeeze managed to push the S&P to its best day since 2008. The benchmark closed an eye-popping 9.2% higher, after plunging the most since 1987 on Thursday.

It says a lot about the week when a 9.3% Friday gain still leaves you with the second-worst stretch since the financial crisis. But that’s where we were when the closing bell sounded. The only week since the GFC worse than this one was – checks notes – the week before last.

One of the week’s defining features was the apparent unloading of profitable positions in order meet margin calls and raise cash amid the carnage.

Caught up in the dynamic was gold, which fell the most since 2011. The same thing happened to carefully-polished, yellow paperweights on February 28. “To cover losses, one usually needs to sell the best performers”, Deutsche Bank’s Aleksandar Kocic wrote Wednesday.

The dollar surged on the week, snapping a two-week slide, despite rampant expectations of a massive cut from the Fed.

Essentially, the squeeze in dollar-funding markets is manifesting in greenback strength. “Funding-market pressures now seem to be spilling over to FX spot markets and boosting the dollar”, Goldman said.

ING’s Chris Turner called it “the wrong kind of USD rally”. “It would be wrong to think the dollar outperformance represents some kind of global re-assessment of risks, favoring the US”, he remarked. “Far from it. Typically these types of moves in money markets come during periods of extreme stress, where the unwind of a long term, benign environment for equities has painful consequences”.

Oil fell the most since 2008 as the market struggled with the fallout from the Saudis’ move to start a price war with Russia, but rallied some $2/bbl late Friday when Trump said the US will buy “large quantities” of oil for the Strategic Petroleum Reserve.

Energy stocks are down some 30% in March.

The collapse in oil prices has obviously imperiled high yield. Operational difficulties in the energy sector are all but certain. And “operational difficulties” is me being very euphemistic.

Credit had a truly harrowing week. Spreads ballooned wider in recognition of rising recession odds, rekindling concerns about “fallen angel” risk in BBBs and exposing over-leveraged balance sheets to the biggest stress test since the crisis.

Here’s JonesTrading’s Mike O’Rourke with a pretty succinct summary:

The short term economic pain will shorten the duration of the epidemic, which is a good thing.  The problem financial markets are grappling with is that policy makers refuse to accept short term pain for long term gain. The S&P 500 just dropped 27% in 16 trading days (16.5% in 4 days) and has only just returned to the historic market multiple for trailing earnings. Now, earnings are set to decline in 2020.  For the past decade, irresponsible regulatory and fiscal policy from Washington and abysmal monetary policy decisions from the Federal Reserve have allowed companies to manage their businesses for the short term.  Monopolies have come to dominate the economy and markets, crushing all competition. Tax cuts and reckless borrowing have been used for share buybacks, and corporate leadership has been managing for the benefit of  the share price and not the business. Instead of having cash for a rainy day, black swan or tail risk event, corporations borrowed to buy back stock. Anytime the market mechanism attempted to enforce corporate discipline, the Federal Reserve intervened “to protect the economy.” Now, many of those companies are facing cash crunches as the COVID-19 breakout brings business to a near halt.

You may not agree with everything in that passage (from a Thursday evening note), but you probably agree with most of it.

“While the US Business Roundtable finally accepted that shareholder returns should not be the primary goal, the modern leveraged and asset-based world depends on ever-rising asset prices”, Macquarie’s Viktor Shvets wrote Wednesday.


“Thus, the narrow ‘shareholder value’ objective is well-suited as it focuses just on one goal: higher asset prices”, he went on to say.

Well, suddenly, asset prices are moving lower. Maybe you noticed.

Credit and bond ETFs cracked under pressure. Dramatic discounts between the shares and NAV opened up in all manner of vehicles and products. LQD, for example, saw the widest disparity since the crisis.


You can produce a similar visual for virtually any fixed income ETF you care to investigate.

Bond funds saw record weekly outflows across IG, HY and EM debt. “Extreme bearishness should be bought so long as policy makers guarantee no future credit event”, BofA’s Michael Hartnett said Thursday. “Fed QE5 promises $5 trillion of liquidity [and] sets up a big market rebound if [a] credit crunch [is] averted and fiscal policy short-circuits recession”, he added.

There are quite a few “ifs” in there, but you should note that it’s entirely possible that the Fed expands asset purchases next week alongside a massive rate cut.

The Treasury market effectively ceased to function (or at least function properly) earlier in the week. Bond ETFs reflected severe strain and various dislocations. The malfunctioning in rates was one of the primary reasons for the Fed’s Thursday “bazooka” intervention.

Read more: The Treasury Market Is Broken. ETFs Are Cracking. Risk Parity’s ‘Footprints’ Have Been Spotted.

As for what comes next, your guess is probably as good as anyone’s at this juncture. We’re staring down another “virus weekend”, so to speak. The news flow won’t be positive.

Next week, the Fed will be tasked with figuring out how to explain the moves undertaken so far, and also how to deliver on expectations that are “lofty”, to say the very least. The March meeting is made all the more precarious by the new SEP.

SocGen’s Kit Juckes, weighing in Friday morning, wrote that “with a pandemic slowly making its way around the world, we’ve got a lot of out-of-date and irrelevant economic data to watch, and more uncertainty than central bank platitudes can hope to alleviate”.

That’s a problem. Because with rates at the lower bound and balance sheets bloated, and with fiscal policy still largely inept, central bank platitudes are all we’ve really got.


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5 thoughts on “It Could Get Worse

  1. Buying into the strategic reserves! What genius managed to sell him on that? Not joking that’s exactly what I was hoping for while most Trump business people I know were asking for tariffs. There is evidence that upon this virus abating oil usage will skyrocket as efficiency will drop as we burn hard to make up for lost time.

  2. That was a really great summery of the current situation.. The what comes next part is entirely dependent on what the impact of throwing nothing but money at this problem is going to be and how it will be perceived by …well everyone.
    I tried to think of any other solution given the circumstances going into this mess but unfortunately there probably was no easy escape hatch open.. Only serious preemptive action would have been helpful but The nature of man would not allow this with so many goodies to gobble up still left on the proverbial table.. So here we are……consequences still to come…. So what was the major issue six months ago..??? Oh yeah , I remember ‘a trade deal wasn’t it ‘.??.. Toss it all in the “What me worry pile” ..By the way this down cycle ain’t over yet !!!

  3. I would remind “Heisenbergers” of the author’s prescient warnings ages ago (2 years?) about the potential liquidity trap faced by the bond ETF crowd:

    If an Investment Grade bond ETF has to be repriced because of deterioration of the value of the underlying securities/bonds, where do the Managers of that ETF go to discover (i.e. price) the ETF’s new value? The bonds have become ILLIQUID (no one will buy them). Presumably, then, the ETF could have a value of ZERO…not some percentage of the original par value. Did someone say bond ETF’s had no downside risk because of diversification?

    Oh well. Another day, another dollar down the tubes. Thank “Heis” in arrears. Morituri Salutatem.

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