The outbreak of Covid-19 has had major implication in world markets in the past 30 days. Global stocks, as measured by the MSCI index have dropped by more than 14% in the past 30 days alone. The Bloomberg Commodities Index has declined by more than 6% while the US dollar index has declined by more than 2%. Gold has been an outlier as its price has soared by more than 7%.
A lot has changed in the past two months. The year started with optimism as investors and analysts braced for another upbeat year in global markets. This started to change in January as news from China painted a bleak picture of coronavirus. The highly infectious disease continued spreading in Wuhan and internationally.
As the disease spread, Wuhan was forced into lockdown, and many companies remained shut. Airlines stopped flying to China while many entertainment venues remained shut. In response, many global companies like Apple, Toyota, Microsoft, and Hyundai warned that the disease would have an impact on their previous guidance. As these risks rose and stock markets tumbled, the Fed made a blunder and slashed interest rates by 50 basis points. In response, stocks continued to fall, the dollar declined, and gold price rose.
As the global recession risks rise, the price of gold might continue rising. In Japan, recent data show that the country is already in a recession. This recession comes at a time when the Bank of Japan has few options remaining as interest rates are in negative territory. The bank is also implementing a quantitative easing program. Meanwhile, the government is implementing a $122 billion stimulus package that was announced in November.
The BOJ will deliver its closely-watched interest rates decision on Thursday next week. The European Central Bank (ECB) is also facing a similar situation. The bank has maintained negative interest rates, and it restarted quantitative easing in November last year. The manufacturing and services sectors in the region are being affected by the disease. Worse, Italy, one of the region’s biggest economies, has been forced into a lockdown, which will have significant negative economic and other impacts. We will receive the official statement from the ECB tomorrow (12 March) when the bank releases its monetary policy statement.
Another risk that is likely to prove positive for gold is related to crude oil prices. Last Friday, talks between OPEC and Russia broke down as Russia resisted the proposal to cut supplies again. In response, the price of crude oil declined by more than 30% when markets opened on Monday morning. Lower oil price is usually a positive thing for the world economy because most countries are net importers. However, sustained lower prices make it impossible for American shale producers to be profitable. According to Bloomberg, the amount of oil and gas debt trading at distressed levels rose by 14% on Monday, from $71 billion to $81.5 billion. According to Jim Cramer, 9 out of 10 oil and gas companies could go bankrupt if the low oil prices hold. As a safe-haven, the price of gold would increase if such a scenario plays out.
In politics, the risk of a Bernie Sanders or Elizabeth Warren victory has eased. Both candidates are seen to be negative for the markets and therefore a boon for gold as investors are driven to safe havens. Warren exited the race after she won no delegates on Super Tuesday. Sanders also lost momentum and the possibility of his winning the democratic race has fallen. This means that Joe Biden is the likely candidate to face-off with Donald Trump in November. For most traders, this scenario is relatively negative for the price of gold because it removes risks of anti-market contenders winning the election.
Wednesday, 18th March, will be an important day for the price of gold because the Fed will release its interest rates decision. According to the CME FedWatch tool, 84% of economists expect the Fed to cut rates again by between 25 and 50 basis points. Another rate cut will be negative for the US dollar and positive for gold because it will increase the likelihood of interest rates falling to zero.
While the interest rate decision by the Fed gets a lot of attention, what is happening behind the scenes is still important. In recent months, the Fed has continued to pump money in the repurchase market. This is a market where banks and other financial institutions borrow money cheaply. The repo market started having problems in the second half of 2019, which forced the Fed to make emergency funding. This week, the New York Fed said that it would increase the amount it lends to banks from $100 billion to $150 billion. Also, the bank will increase the two-week repo operation from $20 billion to $45 billion. This matters because it shows that the overall market expects interest rates to move to zero or below.
In summary, the price of gold in the coming few days will be influenced by the Federal Reserve, coronavirus, and crude oil. A very dovish Fed and extremely low oil prices will likely be positive for the price of gold. Another catalyst will depend on whether coronavirus will continue to spread and how governments will react.