Market news – 11 May 2020

The Bank of England voted to leave the policy rate unchanged and released their assessment of the impact of COVID-19 on the UK economy

• The Bank of England (BoE) MPC voted unanimously keep policy interest rates unchanged at 0.1%, and voted 7-2 to continue with the QE program of £200 billion of UK government bond and sterling non-financial investment-grade corporate bond purchases (two members wanted an immediate increase of £100bn). There was a lot of speculation whether the MPC would agree to increase the size of QE – this may now occur at a new 18 June meeting. At current rate of purchases, the BoE will reach its target, £645bn stock of asset purchases, at the beginning of July.
• GDP growth is forecast to be -14% in 2020, with strong rebound of +15% in 2021. UK GDP is expected to have fallen by around 3% in 2020 Q1, and then to fall by a further 25% in Q2.
• Assumptions:
  1. Underlying assumption for both the UK and the rest of the world is that enforced social distancing measures remain in place until early June and that they are then lifted gradually over the following four months, until the end of Q3.
  2. Fiscal support measures, such as the CJRS and the Self Employment Income Support Scheme, are assumed to remain in place, and to be unwound, over the same period.
  3. Around 25% of the foregone consumption and 10% of foregone investment will be made up.
  4.  Brexit - There will be an orderly move to a comprehensive FTA on 1 January 2021.

• Payments data point to a reduction in the level of household consumption of around 30% in Q2 2020. The fall in consumption is much sharper than the fall in income, helped by the government's job retention scheme such that the savings rate should spike in Q2. Around 6 million jobs are currently estimated to be covered by the government's job retention scheme, and the unemployment rate is expected to rise to 9% in Q2.
• The Financial Policy Committee also released results from a stress test in which they shocked the financial system for an extreme “dash for cash” and volatility higher than that experienced during the global financial crisis. The results were reassuring, showing that banks would only need to draw down on about half of their current capital buffers, and concluding that the banking system will be able to relieve the corporate sector from impending cash flow deficits. The level of credit losses also fell to £80bn, from £120bn in the previous test.

Economic data still exceptionally weak

• The Chinese Caixin Services Business Activity Index increased to 44.4 in April, much weaker than forecast after strong trade data released earlier in the month (March: 43.0, consensus: 50.1). New export orders declined over the month (-2.6 pts) and the employment index reached record lows (47.5), whilst new business activity was up slightly (+2.6 pts to 48.4). Whilst lockdown measures have been eased across China, unemployment and slower wage growth have slowed the rate of recovery for the services sector.
• German industrial production plunged -9.2% in March (consensus: -7.4%), extending the contraction for the 7th quarter. Car production was particularly weak, -31.1% over the month (-37.7% YoY) as many production sites were closed down until May. Energy, investment goods and consumer goods were also down over the month (-6.4%, -16.5% and -7.5% respectively), but the construction sector provided some offset +1.8% over the month.
• The JP Morgan all-industry PMI index collapsed -12.7 points in April to just 26.5, representing a -25.6 point decline from its January high but with more room to fall before it is in line with many forecasts for the global economic contraction caused by COVID-19. Whilst we have experienced such levels of decline in the manufacturing sector in 08/09, the decline in the services sector is unprecedented (April: 24.0), forecasting significant contraction in almost every region in Q2. As many countries remain in lockdown and companies struggle with cash flow difficulties, employment fell to a record low of 38.6. US flash estimates were revised downwards and Europe PMI fell to 13.6 in April – in emerging markets India recorded an unprecedented decline of -43.4 pts to just 7.2.
• Non-farm payrolls in the US fell by 20.5m in April (consensus: -22.0m), leaving the unemployment rate at 14.7% to the end of the month. Given the pace of unemployment filings since the survey was conducted 3 weeks ago, the unemployment rate is expected to now be above 20%. Most of the unemployed are on temporary layoffs, but declines were seen across all sectors over the month with hospitality and leisure employment declining 47%. Average hourly earnings increased by 4.7%, although the increase is reflective of many lower paid workers now in temporary unemployment.