False Hope: Hubei Experience Suggests EU and US may Need to Extend Lockdowns

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On Monday, we observe moderately upbeat sentiments in Asian and European stock markets backed by hopes that Saudi Arabia and Russia will still be able to “make peace” despite Trump’s weekend U-turn and abrupt decline in new cases of Covid-19 infection:

The VIX volatility index, which is now a useful measure of general virus-related level of fear, has dropped to 44.74. Futures on the S&P 500 have risen by 3.6%, European stocks experience noticeable relief.

Demand for risky assets is still a function of the rate of spread of Covid-19 in key developed economies – EU and the US. Governments are set to lift lockdowns as soon as possible so it makes sense to anticipate easing based on the developments of the pandemic. In the United States, we’ve seen a decrease in the growth rate of new cases from 12.07% to 9.14% on April 5, which may forego a more welcomed decline in the number of new cases which is expected to deliver stronger bullish momentum.

The size of economic losses depends on the length of self-isolation regime, but this variable is difficult to assess. So far, the basis for most estimates is complete case-study of the Chinese province Hubei, where imposed self-isolation measures led to suppression of the outbreak with subsequent lifting of the lockdown. Several key economies, in which nationwide lockdowns were announced around mid-March saw several metrics following the path of Hubei. The following chart shows that since the countries adopted self-isolation measures, the three-day growth of deaths has started to converge on the Hubei experience:

However, China had to kept Hubei in lockdown for 63 days to reduce infection to the relatively safe level. Self-isolation regime in several Eurozone countries expires in mid-April (on April 30 in the United States) but based on the experience of Hubei, we can expect negative surprises from this front, namely the extension of self-isolation regime. Italy and Spain are set to make announcements on April 11 and 12 and it will possibly tell us what we should expect from other countries.

It also reasonable to assume that easing of the restrictive measures may come slightly ahead of respective upbeat comments by the government as early optimism may be counterproductive in maintaining vigilance, social distancing and responsibility among citizens. That’s why it makes sense to expect markets to try to be slightly ahead of the news.

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