Since the United States and other countries around the world have begun to reopen their economies after shutting down due to the coronavirus crisis the markets have swung towards a more risk-on sentiment. This has resulted in the U.S. dollar depreciating rapidly while strengthening emerging market currencies. The U.S. dollar index has been rapidly declining since mid-May on hopes that the reopening of the world economy will spark pent-up economic activity from consumers and industry. On the other hand, there are still significant risks from a potential second wave of coronavirus infections which threatens to quickly reverse the risk-on mood of the day.
However, there are real reasons to be optimistic. The Federal Reserve has announced it will be providing massive stimulus in the form of buying corporate bonds, resulting in the U.S. dollar weakening while commodity-linked and emerging market currencies strengthened on the news. This occurred within the context of recent positive employment numbers coming out of the U.S. Also, the latest retail sales data showed a surge in the U.S. retail sector during the month of May, further providing hope that the U.S. economy is recovering faster than expected.
Signs of Covid-19 resurgence in China and US
On the other hand, there are signs that a resurgence in coronavirus in China and the US which can result in hampering or even reversing the reopening of these two major economies. Beijing has recently reinstituted a partial shutdown amidst an increase in infection cases originating from Xinfadi, a local food market. Since then, Beijing’s municipal government upgraded the risk level of 22 more areas within the city. Twelve of these zones were upgraded to a high-risk level, while 10 others were labeled as medium risk locales.
Beijing has closed down all schools in an effort to contain the resurging infections which have already begun spreading to other areas outside of the municipality. The local government is requiring people to be tested for coronavirus prior to being permitted to leave Beijing. Also, taxis and vehicles from rideshare apps have all been banned from leaving the city. Additionally, passenger buses from certain cities in neighboring provinces have been stopped. However, trains and other modes of transportation continue to run in and out of Beijing.
Fear of a future nationwide shutdown in China resulting from failure to contain the spread of coronavirus is keeping the markets on edge. Future news suggesting a worsening of Covid-19 spread in China could weigh on currencies linked to global trade growth, particularly AUD. China is currently Australia’s largest trading partner.
Risk of second wave bubbling up in the United States
Not only is China experiencing signs of potential coronavirus resurgence, but some states in the United States which have begun to reopen are also seeing spikes in infection rates, stoking fears that the United States may have reopened too early. California, Florida, and Texas have recently seen new cases of infections reach record highs. On the other hand, the state of New York has seen a consistently declining rate of infections, providing some strength for risk-on assets such as CAD and ZAR. However, despite the improving data on coronavirus data, New York Governor Andrew Cuomo has continued to express concern over restaurants and other businesses not adhering to reopen safety guidelines.
Mass global protests could exacerbate coronavirus spread
Due to the nature of how Covid-19 is spread, the recent protests against police brutality worldwide could result in an unintended consequence of furthering the spread of coronavirus infections. The danger of the mass gathering mirror the 1918-19 flu pandemic when mass gatherings were the cause of a second wave of the flu pandemic, according to a statement from the National Bank of Canada. However, the statement also noted that the Federal Reserve still has plenty of capacity to increase monetary stimulus via purchasing corporate bonds. Any future news of the Federal Reserve further utilizing this capacity can provide a further weakness for USD, which has been acting as a safe-haven during the current coronavirus crisis.
Hope for new coronavirus drug breakthroughs
Although risks of coronavirus resurgence is quite real, there is still hope that pharmaceutical breakthroughs could result in a vaccine in the future, or at the very least, treatments which can help the human body fight the virus. A recent breakthrough by the University of Oxford in the U.K. has shown significant success with the drug dexamethasone in preventing death from coronavirus among patients afflicted by Covid-19. Major developments on this front can suddenly reinvigorate the risk-on sentiment in the market.
Other risks also at play potential for Forex traders
Along with the pandemic, there are several other significant factors that could potentially exacerbate the risk-off sentiment. One of these risks includes the ongoing trade war between the U.S. and China. On the other hand, Forex traders have the advantage of being able to capitalize on possible risk-off market sentiment by going long on safe-haven currencies such as USD and JPY.