Although it may seem that the current global crisis jumped out of nowhere all of a sudden, this is not true. The world has in fact been heading for a recession by virtue of the fact that the economy has been growing rapidly for a long time without there being any lengthy regression.
Every now and again, the coming crisis is attributed to the Federal Reserve increasing rates, or the trade war between the United States and China, but those risk factors were already fading.
Donald Trump has managed to compel the Fed to adjust its plans in 2018 and it had to abandon tightening monetary policy. The trade dispute between Washington and Beijing also ended rather abruptly and peacefully.
The new threat came from nowhere. If we discount the COVID-19 conspiracy theories about the planned outbreak of the coronavirus and its artificial origin, the epidemic simply exposed the inherent weaknesses of the global financial system.
What’s going to happen next is totally up in the air. There are so many potential scenarios of how things could change. During these challenging times, our job is to obtain the correct information and base our investment decisions on reasoned opinions and facts.
This article will help you understand what has happened to the economy and why there is suddenly so much talk about a financial crisis. We look at events in chronological order and discuss the relevant data that will assist you in making the right decisions.
3 COVID-19 Scenarios and Some Optimism on OlympTrade
Not many could have predicted that the coronavirus pandemic would lead to border closures, global quarantine, and the state coffers opening. The world has only experienced fighting SARS, several types of influenza, as well as other dangerous diseases with a high mortality rate, resulting in the global response to COVID-19 being mostly late.
The first domino in a chain of negative processes was the eventual recognition of the danger and quarantine measures. It is not realistic to expect stock market and economic recovery until the pandemic has finally been defeated.
From here on, the situation can develop in one of the following three scenarios:
- The mortality rate will gradually decline to minimum values, while quarantine restrictions will be eased. In this scenario, it may take years for the economy to recover.
- A vaccine will be developed. Until this happens, countries will spend massive amounts to try and limit the pandemic’s impact. Economies will however start to grow rapidly once a vaccine is available.
- The pandemic will run its course, but there will be outbreaks of new viruses or COVID-19’s mutation.
We are optimistic that the pandemic will end sooner or later. About a century ago, the Spanish flu plagued the world, and it ended up claiming between 25M and 100M lives, while affecting around 30% of the world’s population. According to doctors, COVID-19 is not as dangerous.
The Worst Economic Fallout Since WWII
Kristalina Georgieva, the Managing Director of the International Monetary Fund, commented on the COVID-19 crises by saying that it is expected to cause the worst economic fallout since the Great Depression.
Commercial and central banks, as well as governments, are trying to get a handle on how big an economic recession they will have to face this year. Preliminary estimates indicate that the GDP in the U.S. may decline by more than 30% in this quarter.
Swiss bank Credit Suisse’s analysts predict the economy in the US will decline by 33.5%. The period from April 1 to June 30 will likely be the worst quarter since 1945, when record keeping was started.
Experts from the Bank of America were among the first to say that the U.S. had dropped into a recession, and estimated a decline of 12% in GDP.
Comparing the financial crisis of 2008 with the current situation, it can be concluded that the current scenario will be much more difficult. In Q4 of 2008, the GDP for example dropped by ‘only’ 6.3%, while the drop in the S&P 500 index during the same period was around 30%.
This means that the recent correction of 35% of the U.S. stock market with the upward bounce that followed was only the first signal. This is also probably the reason demand for gold has been high since the start of the year. The price of gold reached new seven year highs in April.
For countries with economies linked closely to oil exports, it is however the worst of both worlds.
Oil: Russian Obstinacy and Saudi Arabian Payback
In 2016, oil exporting countries made moves to address the supply and demand balance, and key oil market players concluded an agreement known as the OPEC+ agreement. This deal aimed at reducing oil production for a specific period.
There was however increasingly less unity among the parties after the contract was extended several times. The market ignored statements made by small exporters, like Ecuador. When Russia however refused to agree to more reductions in crude production volumes, this led to the demise of the OPEC+ deal.
The parties did not manage to reach agreement for another cut on March 6 when Russia, Azerbaijan and Kazakhstan rejected supporting the reduction of quotas. Saudi Arabia responded to this move with a well-known tactic used in the 80s, by announcing an increase in production and reducing oil prices. By April 1, oil’s price had dropped by more than 50%: The Brent price fell from $50 to $23 per barrel, while the WTI price dropped from $46 to $20.
Ultimately, U.S. President Donald Trump had to intervene in this oil standoff by getting the top officials of Saudi Arabia and Russia together to resume their dialogue. As a matter of interest, specialized departments in the U.S. allow for the country to impose sanctions against both Saudi Arabia and Russia, if they don’t find a compromise.
While the oil producers negotiated, the world fortunately stopped denying how serious the COVID-19 epidemic was and started taking drastic action. Although business activity slowed down, sales dropped and export and import flows were disrupted, and this in turn led to the oil consumption declining, production has continued.
The Market Pressure Had to Be Released
After OPEC+ producers had agreed to cut production by nearly 10M barrels per day, investors calmed down for a short time. The inventory growth however led to the next wave of sell-offs.
More than 13M additional barrels were recorded per week, resulting in traders quickly starting to talk about depleted storage capacity.
The pressure in the market urgently needed to be released, as the tension was really high. This resulted in an incredible collapse of WTI crude futures. Not only was the contract for May delivery cheaper, but the oil price closed on a negative number at -$40 per barrel for the first time ever!
The specifics of this type of instrument obviously played a role. Oil futures have a limited period to circulate and traders started to sell off the contracts before they expired as nobody needed real oil delivery.
Without going deep into exchange contracts’ subtleties, it can however be concluded that oil can now cost neither $50, nor $100. This is due to the global recession, a drop in demand, and excess stock in storage facilities.
Low prices for oil will mainly affect countries with budgets closely linked to oil export revenues, e.g. Mexico, Middle Eastern states, Russia and Norway.
Although they can normally easily survive this type of situation due to accumulated reserves, handling the economic crisis caused by the COVID-19 pandemic needs much more spending.
Will Positive Dynamics Return To The Oil Industry?
Independent experts say that if Russia, the U.S. and Saudi Arabia don’t act on the agreement to cut production quickly, prices will drop further given the existing demand environment.
The only way to increase the price that will not be catastrophic is to increase economic activity in both the US and China. Quotations will gradually increase when consumption starts outpacing production. Based on current global economic conditions however, this is not likely to happen soon.
Markets have often been ‘saved’ in the past from excess supply by hostilities breaking out in one or more countries that export oil. Conflicts in for example Venezuela, Iraq, and Libya over the last few decades have led to oil prices increasing.
Professional traders watch the oil-producing regions for a sudden increase in military operations, as the news of conflicts, as well as a declining supply from these regions will boost oil prices.
Without extreme production cuts or any significant conflicts, oil prices will drop or stabilize at low levels by the end of the year. The global economy will only have a chance to gain momentum closer to 2021, after the COVID-19 pandemic, providing of course that the pandemic is over by that time.
Major oil producers started implementing the new OPEC+ agreement in May. Additional production reduction measures are also not excluded. The Mexican president has for example promised to deliberate closing down all new wells.
Another possible route out of this scenario would be a new oil alliance between Saudi Arabia and the US. Although U.S. officials are already working on implementing this idea, Washington’s priority at the moment is to deal with the pandemic and at least partially ease lockdown restrictions.
Financial Armageddon or Not?
As discussed above, investors have been aware of the onset of the global correction for a while now. Gold is a traditional safe haven asset and it started to grow in the second half of 2019 and has since increased by more than 20%.
Not all traders and investors however agree that the financial apocalypse is upon us. One trader using Elliot Wave Theory analysis plans on going short on gold CFD using a multiplier.
Traders using this method view the chart as a set of waves and then classify them to determine where the price will go.
One of the advantages of using this method is that it is complete independent from fundamental analysis. The idea that trends move like waves is seen as an axiom and it is felt that all possible combinations have already occurred.
This is one way that can be used by traders who do not follow the many news factors that are available.
The Distribution of Trillions In The Race For Survival
The current chaos will ultimately be fatal for someone, just as it is in any crisis. Argentina is for example no longer able to agree with its major creditors on debt restructuring and this has resulted in it becoming the first country that went bankrupt.
China has on the other hand gained a temporary advantage as it has almost fully recovered from the pandemic. Although China’s government is actively stimulating business to support their labor market, Chinese officials have noted that exports have declined. This is simply due to other countries starting to buy less.
The huge assortment of possible consequences of the current scenario is worrying. There can’t even be certainty that the recovery programs implemented by governments will beat the recession.
The record-breaking stimulus measures in the US of more than $6 trillion are nevertheless shocking. $2 trillion of the rescue package will be used to pay all citizens of the country directly, while $4 trillion will be offered to support businesses in the form of soft loans. As a result of the prompt measures taken, the U.S. dollar did not become volatile and now serves as a safe haven currency.
The government of Japan is also considering a serious aid package. The stimulus package with a total value of $1.1 trillion will be implemented to support citizens and enterprises. Shinzo Abe, Japan’s Prime Minister, believes this will result in the GDP growing by more than 3%.
The EU authorities are moving along the same route and intend to inject 500 billion euros into the EU’s economy. There are also heated discussions among the euro zone leaders about the so called “coronabonds”, which could assist the worst-hit European countries with their recovery.
What Traders Should Be Looking For
Second tier countries are not as generous with their incentives. They are traditionally more sensitive to a crisis due to lack of economic diversification and inefficient systems. Although these regions depend heavily on global trade, they can achieve high growth rates.
Traders that are looking for ways to capitalize on future growth waves should focus on developing countries like Brazil. Long-term investments can be made in ETF MSCI Brazil 3x. Brazil’s leading companies are included in this portfolio.
Another option is to invest in stocks of major U.S. companies that have the characteristics of a monopolist, like Google and Facebook. Both these corporations have major advertising platforms, and are not afraid of investing in development even during times of crisis.
Facebook sees itself in the role of a payment platform and aims to repeat the success of WeChat from China, while Google improves web technology and produces smartphones. IT companies, unlike governments, are very aware of market needs and tend to get ahead with their moves. This pattern can often bring profits for investors.
Bitcoin, the Investor Safe Haven
In Q1 of 2020, bitcoin experienced both growth to $10000 and a decline to $4000. According to the media, the asset followed stock market dynamics.
As the global economy however deteriorated, bitcoin revealed a feature not expected from it — the need for stability. This was confirmed by the return of its price to $7000, the price at which the coin was trading at the start of the year.
Another interesting factor is bitcoin’s trading volume growth in the exchanges. It currently records around $30 billion worth of trades daily, while this was around $20 billion in Q4 of 2019. That clearly shows that market demand is growing.
Whether the price will decrease or increase is unpredictable, but a flat will ultimately always become a trend. Our job is to pick the correct side. If we consider that bitcoin produces limited emissions, is not subject to inflation and is not controlled by a country, it has a high probability of becoming a major safe haven for investors.
When the crisis turns (and it will), the factors discussed in this article are crucial to understand what is happening. Things will get back to normal for individuals and markets will recover, but until then, there will be strong bullish trends, stock rallies, bankruptcies and collapses. This is what we have to deal with while figuring out how we can make money during the chaos.