The brutal sell-off continued this morning as investors once again shrugged off the latest round of emergency central bank rate cuts. Equity investors are realising each passing day that the economic impact of the virus outbreak is going to be severe, after initially downplaying the risks. It is not just about cancellations of holidays, footballing events and concerts. I think the bigger worry is over solvency of major firms. Undoubtedly many companies which had taken advantage of historically low interest rates and borrowed, will now be finding themselves in trouble with the cash flow draining. Hotels, airlines, restaurants – you name it. While central banks are doing all they can to help the situation, the reality is that not all firms will survive or be bailed out.
But is it surprising that the markets have reacted this negatively to the latest round of central bank rate cuts? To some degree, absolutely. However it is worth pointing out that with interest rates having already been so low, the decisions of central banks over the past couple of weeks won’t make too much of a difference in so far as consumer spending is concerned. The key word is confidence and right now confidence is very low and falling as Covid-19 spreads and kills.
Light at the end of the tunnel?
However, with new cases in China and South Korea slowing over the past couple of days, there may be a light at the end of the tunnel. In South Korea the number of infections reported was 74 overnight. This was second consecutive day that it was below 100. In China, just 16 cases were reported. With interest rates having been slashed and QE also in operation among major central central banks, equities could stage a sharp reversal as soon as the virus outbreak in Europe starts to die down. The problem is, though, no one knows when that will be. Let’s hope it is not too far away.
Underscoring investor concerns, the German DAX Index has fallen so much over the past few weeks that it is now just a spitting distance away from its 2014 low at 8352:
With no signs of a bullish reversal yet, it could easily get there — unless we go back above key resistance and Friday’s low at 8822 first. If we go above this level and hold above it then a short squeeze could be on the cards. However, a short squeeze won’t necessarily mean we will have created a low. For that to happen we need the index to create a higher high. As things stand, the most recent high was Friday’s peak at just shy of 10,000. So, a crossing of this level is needed in order to confirm a potential reversal. The problem is that this level is ‘only’ 2,000 points away!
Put another way, the DAX has fallen 2 thousand points in the space of two trading days. It has capitulation written all over it. So, I think we are nearing the end of the worst of the selling now.