Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 72% of retail investor accounts lose money when spread betting and/or trading CFDs with this provider. You should consider whether you understand how spread bets and CFDs work and whether you can afford to take the high risk of losing your money.

Bull or bear case, where do we go to next?

This week we got some dire predictions of the damage the current global pandemic is likely to do to the global economy, as well as the UK economy in general.

Yesterday’s assessment by the IMF, of the pandemic impact was an eye watering assessment of the effect recent lockdowns are likely to have on global economic activity over the next quarter, as well as the potential for a rebound as we look towards 2021.

For the global economy, the fund predicts global GDP shrinking by 3% in 2020, and then rising 5.8% in 2021, with the bulk of that rebound being driven by China and India.

Broken down on a regional basis, their predictions show an annualised GDP decline of 5.9% in the US, a 7.5% decline in the euro area, with the UK economy set to decline 6.5% in 2020. In the euro area the biggest casualties of the lockdowns will see Spain and Italy show contractions of 8% and 9.1% respectively, an economic shock of a magnitude that would dwarf the impact of the Eurozone debt crisis.

In the UK the Office for Budget Responsibility (OBR) reinforced that narrative by predicting that the UK economy could see a 35% drop in output on Q2 as a result of the lockdown, though they caveated that by saying that this assumed that the lockdown would only last three months, before economic activity rebounded strongly, in the second half of the year.

With infection rates, as well as death rates starting to decline across Europe, as well as some optimism in the US, we’ve seen stock markets rally quite strongly on optimism that the economic shock is likely to be relatively contained, and as such we could get a U-shaped rebound in economic activity.

This sounds all well and good, and also ties in with the predictions of both the IMF, as well as the OBR, in seeing a quick rebound to the status quo before the outbreak of the pandemic.

While this comes across as incredibly encouraging, it also comes across as incredibly naïve. It’s all very laudable not to come across as overly pessimistic, but the assumptions on the part of the IMF that we’ll see a rebound in global output of 5.8% in 2021, seems a little over optimistic.

The IMF is predicting that the euro area is likely to see a rebound of 4.7%, with Italy contributing 4.8% of that and Germany rebounding 5.2%. The IMF also predicts a rebound of 4.7% for the US and a 4% rebound for the UK economy in 2021.

To be fair to the IMF their world economic projections are caveated on the premise that the various lockdowns will prove to be fairly short-lived, and economic activity can then restart, however anyone who thinks that it will be business as usual over the next couple of years, probably hasn’t been paying attention to recent events. This is not a normal event, it’s a once in a lifetime event that is likely to have seismic consequences of how we all view the world over the next 5-10 years. Patterns of behaviour will change in terms of how we do business, how we shop and how we live.  

Any recovery from the various lockdowns is likely to be very much a stop start affair, particularly since as soon as lockdowns are lifted, or relaxed, reinfection rates will probably start to rise again.

In Singapore, where they are quite used to dealing with cracking down on infections of this kind, (think MERS, SARs and bird flu over the years), they cracked down on Covid-19 very early on and were able to keep the economy broadly ticking over, before finally succumbing to a third wave of infections at the beginning of this month with a near total lockdown.  

If Singapore, with all of its experience of dealing with these types of events is struggling, what does that say about the responses of governments across Europe, in the US and here in the UK, where the health care systems are struggling to cope.

We are already hearing possible timelines for relaxing the lockdowns, as well as pressure for governments to outline exit strategies, alongside the potential for some form of testing regime, as well as a process to test people to see whether they have already had the virus and might have an immunity.

Even here there is some uncertainty after the WHO suggested that not everyone might have this immunity, and could be vulnerable to being reinfected.

All of this matters in the context of what we’ve seen in terms of the current stock market rebound, and the keenness of politicians to resume normal economic activity.

There is a case for making the argument that the current reaction to the pandemic, if it goes on could actually be worse for the economy, given that recessions can cause death rates to go up as well, and that is a discussion that will eventually need to be had amongst politicians on all sides.

For now, in terms of the rebound in stock markets, and the recent liquidity injections by central banks to keep financial conditions on an even keel, the current rebound seems to have way too much optimism baked into it, especially since we don’t even have a vaccine yet.

The durability that Covid-19 has already displayed in Singapore is likely to continue across Europe as well as the US, where unlike in Singapore, health systems are still coming to terms with the challenges viruses like this pose to their populations.

Looking at the current rebound in stock markets through this prism, alongside the economic damage the various measures that have been taken already to curtail the virus, which has seen unemployment soar, it is very difficult to see anything close to a U shaped recovery in economic activity of the type being priced into stock markets at this point in time.

For now, the current rebound has seen the S&P500 retrace 50% of the declines seen since the record highs in February, however all of the major indices are still below their long term 200-day MA’s. The German DAX has also seen a decent rebound, while the FTSE100 has lagged behind.

We could well see further gains in the coming days, however for all of the current optimism all of the major indices are still well below their long term averages, and as such the price action suggest that this still seems very much like a bear market rebound, and not the beginning of a new bull market, though I do hope I’m wrong. If the relationship between the price action and the averages changes then of course I will change my mind.  

Disclaimer: CMC Markets is an execution-only service provider. The material (whether or not it states any opinions) is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by CMC Markets or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although we are not specifically prevented from dealing before providing this material, we do not seek to take advantage of the material prior to its dissemination.

Before you go…

Try a demo of our Spread Betting or CFD trading accounts on our innovative platform. Free of charge and risk-free with virtual capital starting from €10,000.