The U.S. and Europe face the “distinct possibility” of a technical recession in the first half as the coronavirus outbreak dampens demand and supply and drives investors to safe havens, according to Pimco’s Joachim Fels.
“The worst for the economy is still to come over the next several months,” Fels, global chief economic adviser at Pacific Investment Management Co., wrote in a note to clients, which also cited concerns including a slump in China’s manufacturing and a weaker market for travel-related services.
Global markets are girding for another roller coaster week, as the virus continues to spread and an oil-price war adds to market uncertainty. U.S. stocks fell back into correction territory and Treasury rates hit an all-time low in the past week. Pimco previously said the chances of a recession in the next 24 months were 35%.
Another Wild Trading Week Awaits in the Age of Coronavirus
Fels expects the recession to be short, based on the assumption that the virus outbreak peaks in the next two months. While a recovery could follow in the second half, “we are concerned about potential cracks in the U.S. credit cycle in an environment of dwindling corporate cash flows, which could lead to a sharp tightening of financial conditions that feeds back into the real economy,” he added.
More Rate Cuts
The Pimco economist also predicted further interest rate cuts by the Federal Reserve. Similar moves to ease monetary policies by other central banks, including those in emerging markets, could also come over the next few weeks. He also expects further fiscal easing by governments to support demand to aid an economic recovery.
Fels wrote his note following Pimco’s quarterly “cyclical” forum, when the firm offers its 12-month outlook and was staged for the first time by video from the 17 global offices amid restrictions on staff travel and gatherings at the bond management company, which oversaw $1.9 trillion as of Dec. 31.
Other comments by Fels include:
* “We may have entered the New Neutral 2.0,” pushing the neutral rate of interest plus the entire term structure of market rates lower and lower, as long-term disruptors such as the U.S. China conflict, populism, technology and demographics interact with black swans like the coronavirus to increase the demand for safe assets.
* Global growth is likely to undergo a “U”-shaped recovery trajectory as the virus clears, though the cycle could start off as an “I” with a sharp drop in growth, followed by an “L” with visibility is still low about how long it will take.
* Expect at least another 50 basis points of rate cuts from the Federal Reserve, with a distinct possibility of a return to zero and a resumption of asset purchases.
* For investors, it’s still time to remain cautious on risk assets and focus on liquidity and capital preservation as central banks have less ammunition to draw from and with vulnerabilities in riskier parts of the corporate credit markets.
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