Fear of second wave of infection sends risk assets lower

Risk aversion returned to financial markets again on Thursday, with concerns over a potential second wave of the COVID-19 virus leading to a violent sell-off in stocks and high risk currencies.

US equity markets experienced their biggest daily drop since the height of the market panic in March, with the S&P 500 index tumbling by over 6% for the day. The reaction in the currency markets was not quite as aggressive, although we did witness sell-offs in high beta currencies such as the Australian and New Zealand dollars and an appreciation in the safe-havens.

Fears regarding an increase in virus infection in a handful of US states was largely to blame for the decreased appetite for risk. Florida, Texas and Arizona all registered their highest number of new daily cases of the virus, with a total of 19 states still seeing an upward trend in reported cases right at a time when restrictions are beginning to be eased. Ongoing widespread protests in the US and beyond provide further reason for concern and have many onlookers fearing a second wave of infection that could cripple the global economic recovery.

Fed Chair Jerome Powell warned over such a possibility during the central bank’s meeting on Wednesday, stating that another wave of infection could harm the US recovery and lead to an increase in joblessness. Should this uptick in new cases continue as a result of the mass gatherings in the coming days, then this trend of a strengthening dollar and deprecation in risk assets could remain the key theme in markets for a little while yet.

UK economy contracts by most on record in April

A notable exception to the risk-off trading was the euro, which managed to mostly hold its own throughout much of trading yesterday. While an exact rationale for this resilience is hard to pinpoint, the still easing number of virus cases and re-opening of economies in the bloc is likely providing comfort for investors. There’s not been too much in the way of European macroeconomic data for currency traders to digest so far this week. This morning’s industrial production numbers may, however, receive some attention.

Sterling, meanwhile, did fall sharply, declining back below the 1.26 mark for the first time in over a week. Ongoing concerns surrounding Brexit were likely partly to blame for this underperformance. Data out of the UK economy this morning was also pretty dire, with GDP contracting by a record 20.4% month-on-month in April - slightly worse-than-expected. Virtually every component of the UK economy was hit hard due to the lockdown, particularly hospitality, education and car sales. There is, however, some crumb of comfort that this is likely the worst of the downturn, with activity set to have picked up in May as restrictions were gradually lifted.