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Temporary Reversal

06 April 2020 by jbchevrel

Today a bit of respite in US credit synthetics risk. CDX IG is -14 on our London close. CDX HY is -82. There are 350k confirmed COVID cases in the US, >2x as much as (reported) in any other country. Adjusted of population, the number of cases per million residents is c700 in the US vs c2,500 in the Hubei province, where the number has plateaued. NY state was the worst hit, COVID hospitalizations growth rate slowed last week, but remains at a high c15%. Timing-wise, based on other countries experience, measures taken in the US since mid-Mar will likely moderate the outbreak (#deaths, demand for healthcare) by end-Apr. What we are re-pricing today is both the higher probability of an oil output deal, but also the past peak in most continental Europe countries (France, Spain, Italy). But even if the expansion (#cases, #deaths) slows, without an effective treatment or vaccine, the public will remain vulnerable, making it difficult for politicians to sustainably reverse the measures. GDP-wise in the US, the consensus is still for a sharp drop in H1, before recovering some in H2. Risky assets and CDX IG have then traded between the YTD low (wide) and the ‘recovery’ leg top (tight). The dual supply and demand shock of COVID will weigh on domestic and external activity. Indeed, supply chain disruptions will result (result already) in production cuts and social distancing leads to much less consumer spending. Sluggish external growth and elevated uncertainty may lead to weaker business fixed investment, particularly if lower crude oil prices persist (cf. Friday post in this blog) taking down US oil-related investment with them. Growth will be supported by the lagged impact from FOMC easing and the Congress $2T fiscal response. But the effectiveness of fiscal stimulus is lower in the US with social distancing. Labor-market wise, initial jobless claims have surged to 6.6m last week, doubling the previous week’s already historic reading of 3.3m, implying a two-week total of 10m. Initial jobless claims are likely to remain elevated in this Thursday’s reading too. As of last Friday (3 Avril), 39 US states had issued stay-at-home orders or closed non-essential businesses, covering c80% of private employment, up from 26 states and c55% of private employment as of previous Friday (27 mars). Jobless benefits filing activity has slowed slightly in Pennsylvania, one of the states to impose restrictions soonest, but the impact of additional state restrictions will probably more than offset that for the week ending 4 April. The March employment report, which we had last Friday, is covering just the first half of March, and was still much weaker than expected. NFP fell 700k+ and the unemployment rate printed higher by +0.9% to 4.4%. Initial jobless claims continue to suggest a decline of c20m in April NFP. The unemployment rate is, at the moment, likely already above 10% and will likely rise to c20% over the next two months. The consensus is still that after May, the labour market will start to improve again, gradually.