Growth worries in US Treasuries, KRW weak on possible easing, China credit stable but not firm

30Y UST yield below 2% on growth worries. KRW weakened ahead of possible BOK easing. China credit stable but not firm.
Eugene Leow, Ma Tieying, Wei Liang Chang21 Feb 2020
    Photo credit: AFP Photo

    Rates: US Treasuries fire a warning       

    The US Treasuries space is sounding a warning on global growth with 10Y and 30Y yields near critical support levels.  Overnight, on modest risk aversion, 10Y US yields fell to 1.51%. Worryingly, 30Y yields are now below 2%, levels last seen in early September when China-US trade war fears were acute. Evolving views on COVID-19 can best be explained by the nuancing peak fears across the different economies. With infection numbers coming off in China, we can reasonably assume that the worst could be over. However, alternative data suggests that a pickup in activity is still elusive, which could have negative implications on global growth. Meanwhile, COVID-19 worries have also spread outside China, with Korea and Singapore particularly hard hit.
    Global growth worries, not risk aversion, is the key reason why US yields are depressed. If stresses build across multiple asset classes, even lower US yields would be inevitable. The market has priced in 2 Fed cuts by end-2020 and brought forward the likelihood of a cut to June (about 60%). While we have a Fed hold call, we acknowledge that the odds of Fed easing appears uncomfortably high at this point. Persistently weak global economic data, or a tightening of US financial conditions (due to widening credit spreads, decline in equities or a strong USD) would prompt us to re-assess our view.

    South Korea: Coronavirus weighs on the KRW

    The KRW market is reacting to the deteriorating coronavirus situation in South Korea. The number of confirmed COVID-19 cases in the country has jumped suddenly by more than 70 in the last three days, reaching 104 on February 20. Most of the new cases were concentrated in Daegu, the country’s fourth largest city with 2.5mn residents. The health authorities declared this week that COVID-19 has begun to spread locally with a limited scope. Accordingly, the USD/KRW rose more than 1% in the past three trading days and crossed 1200 on February 20.

    A weaker KRW is justified by the near-term growth and policy outlook. The economy may weaken more-than-expected in 1Q. In addition to a decline in exports as a result of the supply/demand shock in China, domestic consumption would also take a hit as the virus concerns intensify on the local front. Meanwhile, the Bank of Korea may ease monetary policy earlier than expected. The BOK has adopted a wait-and-see stance in mid-February and is closely watching economic indicators to gauge the impact of COVID-19. Given the latest deterioration in coronavirus situation and the possible broadening of economic impact, the BOK could find it necessary to consider preemptive policy actions. The chance of a 25bps rate cut at next Thursday’s BOK meeting is on the rise.

    Credit: Fading impact of COVID-19 on onshore credit

    To investigate the impact of COVID-19 on onshore Chinese credit, we have examined new issue spreads for a total of 240 Chinese firms that have tapped the bond market more than once since December. This allows us to compare changes in spreads for the same name over the last three months, without worrying about firm-level differences that influence aggregate spread levels.
    Our panel analysis of the new issues showed that COVID-19 shock did pose an overwhelmingly negative shock in January. Over two third of firms which issued bonds saw a rise in spreads for their January issuance compared to December. These firms saw an average 7bps jump in spread, and it is hard to imagine such a broad impact to be due to any other individual factor in so short a time.

    Starting in February however, policy support turned more vigorous with ample liquidity provided by the PBoC, cuts to the MLF and LPR rates, and state-sanctioned support for “anti-epidemic” bond issuance. Our analysis found that firms tapping the market in February were evenly split between those which saw higher spreads relative to January, and those which saw lower spreads. On average, spreads have fallen by 2bps for firms compared to January. Policymakers appeared successful in stabilizing credit sentiment but a narrowing back to December spread levels surely demand evidence that production and services are finally turning back to normal.

    Eugene Leow

    Rates Strategist - G3 & Asia

    Ma Tieying

    Economist - Japan, South Korea, & Taiwan

    Chang Wei Liang

    Credit & FX Strategist

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