Volatility in global equity indices and major currencies has fallen sharply in the past week.
However, markets are still having to continuously adjust to i) the complex mathematics and science behind the spread of Covid19, ii) governments’ heterogeneous reaction functions, iii) the ensuing collapse in economic growth and iv) the ever growing list of monetary easing, liquidity enhancing and fiscal stimulus measures designed to mitigate a slump in global supply and demand which remains difficult to accurately quantify.
There are still more questions than answers about the efficacy of these often unprecedented measures and acute supply and demand tensions in the crude oil market have led to record-high volatility in prices. But while the halving of the crude oil price in the past couple months is an extra financial burden for oil exporting nations and companies, it will benefit many countries and industries and most households even if these benefits may not be significant or obvious, at least near-term, in the context of an ongoing collapse in global growth.
Figure 1: Our measure of realised volatility in major currencies far lower than during 2008-2009 financial crisis
Source: 4X Global research, BIS, investing.com
Note: Note: Basket weighted by currency-pair turnover in 2016; currency pairs versus US Dollar are AUD, CAD, CHF, DKK, EUR, GBP, JPY, NOK, NZD, SEK, ARS, BRL, CLP, COP, MXN, CZK, HUF, PLN, RON, RUB, ZAR, TRY, ILS, CNY, IDR, INR, KRW, MYR, PHP, SGD, TWD and THB.
Global FX volatility down sharply in the past week as markets adjust to “new normal”
Volatility in equity indices and major currencies fell last week albeit from elevated levels, suggesting that markets may have for now partly adjusted to this “new normal”. Daily percentage gains and losses in the S&P 500 did not exceed 4.4% and the VIX index of S&P500 volatility has almost halved in the past three weeks to around 44 from a 12-high year of 85. Moreover, our measure of global realized FX volatility has fallen sharply from the 11-year high hit seven sessions ago (see Figure 1).
It is also noteworthy that global FX volatility has not yet come close to matching the highs recorded at the peak of the great financial crisis in November 2008. We attribute this relatively lower FX volatility to a number of factors, including tighter central bank FX management and financial product regulation in the past decade and the more rapid reaction of central banks across the world in 2020, including the widespread use of Dollar swap lines, to ease pressures in the Dollar market.
Specifically volatility in Dollar/Asia crosses remains low in both absolute and relative terms, including in the high-yielding Indian Rupee and Indonesian Rupiah (see Figure 2). This partly reflects Non-Japan Asian central banks’ willingness and ability to credibly intervene in FX markets to minimise volatility in their currencies and “smooth” their exchange rates versus the currencies of their largest trading partners and creditors – namely the US Dollar and Chinese Renminbi. Moreover, while our measure of volatility in GBP/USD rocketed in the second half of March, it remained about a third lower than in the wake of the June 2016 UK referendum on EU accession.
Figure 2: FX volatility particularly low in Asia but still very elevated for some oil-exporting economies
Source: 4X Global research, BIS, investing.com
Surge in oil price volatility a concern but there are benefits from halving in oil price
Everything is relative of course and lower volatility in global equities and major currencies has given way to a new surge in crude oil price volatility to unprecedented levels.
The mismatch between supply and demand had kept the price of Brent crude oil pretty stable at around $25/barrel since early March. However, it soared more than 20% by close of business on 2nd April to about $30/barrel following a tweet in which US President Trump said he expected Saudi Arabia and Russia to curb oil supply by at least 10 million barrels. Russian oil officials denied having met their Saudi counterparts but that did not stop the oil price rising a further 14% on Friday to $34/barrel.
Figure 3: Volatility in price of crude oil has surged and is materially higher than during great financial crisis
Source: 4X Global research, investing.com
Price volatility has remained acute in the past 48 hours and our measure of realized volatility in the price of Brent crude oil remains near record highs (see Figure 3). Unsurprisingly perhaps volatility in the currencies of oil exporting economies (Mexico, Norway) remains extremely high although volatility in the Russian Rouble has eased off in recent days and is now in the lower half of its five-year range (see Figure 2).
This oil story clearly has further to run but it is noteworthy that the wild gyrations in crude oil prices are mainly being couched in terms of their negative/positive impact on oil-exporting countries and companies and global equity indices. There has been little discussion of how the halving of the crude oil price from $60/barrel a couple of months ago benefits the vast majority of countries which are net oil importers.
For example, with exception of Malaysia which is a net exporter of oil and gas, Asian economies will benefit from the collapse in the crude oil price in the form of lower oil import costs. This will provide some support to trade and current account balances (and currencies) under pressure from a sharp drop in exports and higher Dollar-denominated debt repayments. Moreover many energy-dependent industries and companies (such as airlines) should profit from lower fuel prices, even if they are unlikely to reap any upside at present due to the collapse in consumer demand.
Finally households will benefit, albeit with a lag, from a material fall in their energy bills and fuel-pump prices. In the UK, for example, the average price of unleaded fuel has fallen to £1.12 per litre (and as low as £1.02 in a growing number of petrol stations) from about £1.25 at the beginning of the year. Of course with many people unable or unwilling to travel, due to government lockdowns, the financial benefit of cheaper petrol will be small. Nevertheless, this will come as a welcome relief at a time when a record number of people are losing their jobs and household budgets are being stretched.
For further information about 4X Global Research or to discuss a subscription to its research products and services, please email odesbarres@4XGR or call Olivier Desbarres on +44 (0)20 3811 0454