Will the Markets Shrug Off the Coronavirus?

A rise in fears over the Coronavirus hit the markets hard at the start of the week yet most risk assets have reversed moves from the early week. While the media outlets continue to provide evidence that the virus is spreading, the markets seem a bit more optimistic, leading to a divergence.

The Impacts of the Virus are Rising

The latest report from Reuters shows that the Coronavirus has killed more than 200 people and that more than 10,000 people have been infected. Reuters have reported stats throughout the week and the figures have been steadily rising.

There has also been a rise in the number of businesses that are impacted by the virus, which will in all likelihood translate into weaker economic reports down the road when it comes to retail sales and GDP to say at the least.

Fed Chair Powell commented earlier this week that the US will be impacted by the slowdown expected in China’s economy as a result of the virus. Albeit he added that neighboring countries are more likely to see a bigger impact.

In the early week, it appeared that airlines and the tourism industries were hit the hardest. As the week has progressed, several airlines have announced cancelations of flights both going in and out of China.

This has now spilled over to other industries such as retail and automotive companies that are heavily reliant on China for supply distribution.

How the Markets have Reacted

The market reaction has certainly been an interesting one. The week started with a lot of volatility and a sharp drop in equities while safe-haven assets rallied.

It’s peculiar that much of this shift to risk aversion dissipated before the US markets even opened on Monday. The S&P 500, for example, started the process of carving out a bottom in the pre-market several hours before the opening bell. The index retreated after Wednesday’s Fed meeting but held above Monday’s low and has since recovered.

Gold prices rallied to a two-week high when the markets opened this week, but the momentum didn’t carry past the first trading hour of the week.

The Japanese yen rallied about 0.6% against the dollar in the early week but has since recovered. At the time of writing, USD/JPY is down about a third of a percent.

Price movements in the Japanese yen this week have been especially surprising. USD/JPY moves more than a third of a percent in a regular week when there isn’t a major shift in risk sentiment.

The bottom line is that the markets immediately began to ignore the shift to risk aversion once the US markets opened on Monday. Perhaps investors didn’t see the urgency. Another reason for the prompt return of risk appetite might have been that several of the big names reported earnings this week which often creates buying demand.

Where Do the Markets Go From Here?

Most would assume that a virus with a rising death toll, slowly spreading around the world, would cause the markets to collapse. This has certainly not been the case.

While it may seem absurd for the S&P 500 to rise to fresh highs in February after all that’s happened, it’s not something that should be ruled out. After all, it was just a few weeks ago that equities did something extremely unusual.

Remember the escalation in tension between Iran and the US? The markets dipped and broke to new highs within the same day. Some investors may not have even known that the S&P 500 was down 2% on January 8 as the decline and recovery took place in after-hours trading.

At the same time, there is a lot of uncertainty about how things will progress with the virus and perhaps it’s too soon to assess what kind of damage it will do on the global economy.

Legendary investor Paul Tudor Jones chimed in on the subject in an interview with CNBC this week. Jones commented that as a long-term investor, it makes sense to wait about two weeks to let the dust settle and get a better view of things.

Perhaps one strategy might be to focus on the sectors that are not very sensitive to developments in the virus.

The banks’ sector certainly looks interesting. Both Bank of America (BAC) and JP Morgan (JPM) have recovered to erase losses from the start of the week. Both of these stocks diverged from the markets in the early month and had been trending lower. With the upward momentum this week. a case can certainly be made that a bottom might be in for these two stocks.