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Financial impact of the 2019–20 coronavirus pandemic

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Economic turmoil associated with the 2019–20 coronavirus pandemic has wide-ranging and severe impacts upon financial markets, including stock, bond, and commodity (including crude oil and gold) markets. Major events included a described Russia–Saudi Arabia oil price war after failing to reach an OPEC+ agreement that resulted in a collapse of crude oil prices and a stock market crash in March 2020. The effects upon markets are part of the coronavirus recession and among the many socio-economic impacts of the pandemic.

Financial risk and country risk

As coronavirus put Europe and the United States in virtual lockdown, financial economists, credit rating and country risk experts have scrambled to rearrange their assessments in light of the unprecedented geo-economic challenges posed by the crisis. M. Nicolas Firzli, a director of the World Pensions Council (WPC) and advisory board member at the World Bank Global Infrastructure Facility, refers to it as “the Greater Financial Crisis” and says it is bringing to the surface many pent-up financial and geopolitical dysfunctions:

“So far, the only European countries forced to put in place short-selling bans are Italy, Spain and France: three of the four largest economies in the enfeebled European Union.” He believes the financial vulnerability of Madrid, Milan and Paris is due to an often-overlooked geo-economic reality, which could come to the fore in the coming days. “By OECD standards, Spain, Italy and France have very weak pension assets bases. Their combined pension wealth is more than 15 times smaller than that of jurisdictions such as the UK or Australia. In times of acute crisis, like today, they lack cash-rich domestic buyers of last resort for the bonds and equities traded on their financial markets. Their national economies will suffer as a result, and their political sovereignty itself may be severely eroded.” [1]

Stock market

Movement of the Dow Jones Industrial Average between December 2019 and March 2020, showing the all-time high in February, and the crash in February and March during the COVID-19 pandemic

On Monday, 24 February 2020, the Dow Jones Industrial Average and FTSE 100 dropped more than 3% as the coronavirus outbreak spread worsened substantially outside China over the weekend.[2] This follows benchmark indices falling sharply in continental Europe after steep declines across Asia.[3][4] The DAX, CAC 40 and IBEX 35 each fell by about 4% and the FTSE MIB fell over 5%. There was a large fall in the price of oil and a large increase in the price of gold, to a 7-year high. On 27 February, due to mounting worries about the coronavirus outbreak, various U.S. stock market indices including the NASDAQ-100, the S&P 500 Index, and the Dow Jones Industrial Average posted their sharpest falls since 2008, with the Dow falling 1,191 points, its largest one-day drop since the 2008 financial crisis.[5] On 28 February 2020, stock markets worldwide reported their largest single-week declines since the 2008 financial crisis.[6][7][8]

Following a second week of turbulence, on 6 March, stock markets worldwide closed down (although the Dow Jones Industrial Average, NASDAQ Composite, and S&P 500 closed up on the week),[9][10][11] while the yields on 10-year and 30-year U.S. Treasury securities fell to new record lows under 0.7% and 1.26% respectively.[12] U.S. President Donald Trump signed into law an emergency appropriations and pandemic countermeasures bill including $8.3 billion in government spending.[13] After OPEC and Russia failed to agree on oil production cuts on 5 March and Saudi Arabia and Russia both announced increases in oil production on 7 March, oil prices fell by 25 percent.[14][15]

Week of 9 March 2020

On the morning of 9 March, the S&P 500 fell 7% in four minutes after the exchange opened, triggering a circuit breaker for the first time since the financial crisis of 2007–08 and halting trading for 15 minutes.[16] At the end of trading, stock markets worldwide saw massive declines (with the STOXX Europe 600 falling to more than 20% below its peak earlier in the year),[17][18] with the Dow Jones Industrial Average eclipsing the previous one-day decline record on 27 February by falling 2,014 points (or 7.8%).[19] The yield on 10-year and 30-year U.S. Treasury securities hit new record lows, with the 30-year securities falling below 1% for the first time in history.[20]

On 12 March, Asia-Pacific stock markets closed down (with the Nikkei 225 of the Tokyo Stock Exchange also falling to more than 20% below its 52-week high),[21] European stock markets closed down 11% (their worst one-day decline in history),[22] while the Dow Jones Industrial Average closed down an additional 10% (eclipsing the one-day record set on 9 March), the NASDAQ Composite was down 9.4%, and the S&P 500 was down 9.5% (with the NASDAQ and S&P 500 also falling to more than 20% below their peaks), and the declines activated the trading curb at the New York Stock Exchange for the second time that week.[23][24] Oil prices dropped by 8%,[25] while the yields on 10-year and 30-year U.S. Treasury securities increased to 0.86% and 1.45% (and their yield curve finished normal).[26] On 15 March, the Fed cut its benchmark interest rate by a full percentage point, to a target range of 0 to 0.25%. However, in response, futures on the S&P 500 and crude oil dropped on continued market worries.[27]

Oil prices

Movement of WTI price from 2019, with Black Monday changes highlighted in red.

The reduction in the demand for travel and the lack of factory activity due to the outbreak significantly impacted demand for oil, causing its price to fall.[28] In mid-February, the International Energy Agency forecasted that oil demand growth in 2020 would be the smallest since 2011.[29] Chinese demand slump resulted in a meeting of the Organization of Petroleum Exporting Countries (OPEC) to discuss a potential cut in production to balance the loss in demand.[30] The cartel initially made a tentative agreement to cut oil production by 1.5 million barrels per day following a meeting in Vienna on 5 March 2020, which would bring the production levels to the lowest it has been since the Iraq War. Meanwhile, analytics firm IHS Markit predicted a fall global demand for crude to fall by 3.8 million bpd in the first quarter of 2020, largely due to the halt to Chinese economic activity due to the virus; it also predicted the first annual reduction in demand for crude since the financial crisis of 2007–08.[31]

However, Russia refused to cooperate with the OPEC cuts, effectively ending the agreement it has maintained with OPEC since 2016. Russia balked as it believed that the growth of shale oil extraction in the U.S., which was not party to any agreement with OPEC, would require continued cuts for the foreseeable future. Reduced prices would also damage the U.S. shale industry by forcing prices below operating costs for many shale producers, and thus retaliate for the damage inflicted on Russian and OPEC finances. The breakdown in talks also resulted in a failure to extend the cut in output of 2.1 million bpd that was scheduled to expire at the end of March.[32]

On 8 March 2020, Saudi Arabia unexpectedly announced that it would instead increase production of crude oil and sell it at a discount (of $6–8 a barrel) to customers in Asia, the US and Europe, following the breakdown of negotiations. Prior to the announcement, the price of oil had fallen by more than 30% since the start of the year, and upon Saudi Arabia's announcement it dropped a further 30 percent, though later recovered somewhat.[33][34] Brent Crude, used to price two-thirds of the world's crude oil supplies, experienced the largest drop since the 1991 Gulf War on the night of 8 March. Also, the price of West Texas Intermediate fell to its lowest level since February 2016.[35] Fears of the Russian–Saudi Arabian oil price war caused a plunge in U.S. stocks, and have a particular impact on American producers of shale oil.[36] On 13 March, oil prices posted their largest single-week decline since 2008.[37]

On 13 March 2020, U.S. President Donald Trump announced that he was directing the U.S. Department of Energy to purchase oil for the U.S. Strategic Petroleum Reserve.[38] This will allow the purchase of up to 92 million barrels. At the time, the Reserve held 635 million barrels with a capacity of 727 million. The Washington Post characterized this as "bail[ing] out domestic oil companies," though the effect on prices is expected to be minor in a 100 million barrel per day market.[39] Goldman Sachs predicted on 14 March that one-third of oil and oil service companies in the U.S. would be bought by competitors or driven out of business by the low crude prices.[40]

Bond market

Prior to the coronavirus pandemic, a massive amount of borrowing by firms with ratings just above "junk," coupled with the growth of leveraged loans, which are made to companies with significant amount of debt, created a vulnerability in the financial system. The collapse of this corporate debt bubble would potentially endanger the solvency of firms, potentially worsening the next recession. In January, new U.S. corporate debt fell 10% from the previous year, potentially indicating more caution from investors.[41] As the economic impact of the coronavirus began to be felt, numerous financial news sources warned of the potential cascade of impacts upon the outstanding $10 trillion in corporate debt.[42][43] Between mid-February and early March, investors increased the premium, or additional yield, to hold junk bonds by four times the premium demanded of higher credit lenders, indicating increased wariness.[41]

During the 2020 stock market crash that began the week of 9 March, bond prices unexpectedly moved in the same direction as stock prices. Bonds are generally considered safer than stocks, so confident investors will sell bonds to buy stocks and cautious investors will sell stocks to buy bonds. Along with the unexpected movement of bonds in concert with stocks, bond desks reported that it had become difficult to trade many different types of bonds, including municipal bonds, corporate bonds, and even U.S. Treasury bonds. The New York Times opined that this, coupled with the fall in gold futures, indicated that major investors were experiencing a cash crunch and were attempting to sell any asset they could.[44] As big investors sought to sell, the spread between the prices sellers and buyers wanted widened. As banks were unable to sell the bonds they were holding, they also stopped buying bonds. As the number of traders fell, the few trades remaining wildly swung the bond prices. Market depth in Treasuries, a measure of liquidity, fell to its lowest level since the 2008 crisis.[45]

On 12 March, the U.S. Fed took almost unprecedented action to, in its words, "address highly unusual disruptions in Treasury financing markets associated with the coronavirus outbreak".[46] The Federal Reserve Bank of New York announced that it would offer $1.5 trillion in repurchase agreements in U.S. Treasury securities to smooth the functioning of the short-term market that banks use to lend to each other. The New York Fed further announced that it would buy $60 billion of Treasury bonds over the next month to keep the bond market functioning. The seizing up of markets was a critical step in the subprime mortgage crisis that led to the financial crisis of 2007–08 and the Fed appeared to want to act quickly.[47] On 15 March, as well as dropping interest rates, announced it would buy at least $500 billion in Treasures and at least $200 billion in government-backed mortgage securities over the next few months.[27] On 16 March, as the stock market plunged, bond prices jumped according to their historical inverse relationship.[48]

On 17 March, the Fed announced that they would utilize the Commercial Paper Funding Facility (CPFF). The CPFF was first used in the 2007-08 financial crisis to buy about $350 billion of commercial paper (CP), thereby increasing the amount of cash in the CP market, used by business to pay bills and other short-term demands. CP most directly affects the mortgage and auto loan markets, as well as credit to small and medium-sized businesses. The U.S. Treasury Department authorized $10 billion to backstop any losses incurred by the Fed using the Treasury's Exchange Stabilization Fund. U.S. stock markets rallied on the news.[49][50]

On 19 March, the European Central Bank announced a 750 billion euro ($820 billion) bond-buying program, named the Pandemic Emergency Purchase Programme, to mitigate market turmoil. Unlike in previous ECB asset-purchases, Greek government bonds were included. Markets reacted positively, with the yield on Italian government bonds dropping to 1.542% from 2.5% the day before. ECB President Christine Lagarde stated, "Extraordinary times require extraordinary action. There are no limits to our commitment to the euro."[51][52]

See also

References

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