Stocks fall as virus spirals out of control but pound rebounds on Brexit hopes

European stocks and US index futures fell again today after Tuesday’s sell-off, while the dollar traded mixed as the pound recovered on some Brexit-related headlines and safe-haven yen strengthened.

There was little in the way of fresh news flow both on the economic and political fronts. No progress has been made on US fiscal stimulus package, raising concerns that lawmakers will not be able to break the deadlock before the election. Meanwhile, tighter restrictions are being introduced in parts of Europe in response to an alarming rise in virus infections. This has raised concerns that the economic recovery will stall, causing stocks to halt their rally – at least for now. Investors were also digesting US bank earnings.

Coronavirus restrictions tighten further

Countries across Europe have tightened restrictions to slow the spread of coronavirus. In the UK, more people are now hospitalised with COVID-19 than was the case back in March. As cases and now deaths continue to rise, investors may start to reduce their exposure to risk assets, which could potentially mean global stocks may come under renewed selling pressure –  unless a vaccine becomes available and very soon or the US government agrees to a stimulus package.

Here is a summary of the restrictions across Europe, courtesy of the BBC:


At this rate, there is a good chance economic recovery will stall in Europe and investors are evidently responding by reducing their exposure on the euro and European stocks.

Meanwhile calls for a “circuit break” national lockdown has intensified in the UK to help bring the R down, not least by Sir Keir Starmer – the leader of the opposition party. Starmer has questioned why Boris Johnson has chosen to "abandon science," and not introduce a circuit break now before it is too late. So far, the government has refused to go down this route, remaining convinced that the new three-tier system of Covid-19 restrictions, which begun in England, will help bring infections down. But if the R continues to rise rapidly, then the possibility of a national lockdown would increase correspondingly.

Brexit latest
The pound has become heavily headline-driven on Brexit-related headlines. So, it was hardly surprising to see the GBP/USD and other pound crosses turn positive on the back of a report from Bloomberg that said the UK has signalled it won't walk away from EU trade talks immediately. The Telegraph’s James Crisp said in a tweet that “David Frost will tell Boris Johnson that deal is still possible when he briefs PM on Brexit talks.” Accordingly, the PM will delay a decision on whether to quit the Brexit trade negotiations until after the European Council summit ends on Friday, said the Telegraph. However, these somewhat positive reports contradicted the headlines from the other side of the English Channel, where EU leaders will apparently say there has been no breakthrough found in Brexit talks and that they will vow to step up preparations for a no-deal exit.
The UK PM had previously said he will walk away from the talks if there was no clear progress in the talks by Thursday. However, it looks like that decision will now be pushed back by at least a day after this week’s meeting ends. This will not remove Brexit uncertainty, but pound traders have welcomed the development as it potentially reduces the chances for a no-deal exit, providing some breathing space for the currency.
In a nutshell

There is a good chance we may see risk assets come under pressure as the rapid rise in new coronavirus cases and the restriction measures are likely to pose a major risk to the Eurozone’s economic outlook, and potentially other regions that rely on European demand. In particular, the hospitality sector may suffer as more and more people will choose to stay in-doors. We have already seen some evidence that the second wave is starting to weigh on sentiment, as revealed by the sharp drop in Eurozone and German ZEW surveys on Tuesday. Further evidence that the recovery may be stalling could provide the trigger behind a more pronounced sell-off for global stocks. So far, hopes over further stimulus and ongoing central bank support have helped to keep the losses to a minimum. But there are so much these factors can provide in keeping the markets supported at these lofty levels.
DAX on watch

Given the rising infections in Europe, the drop in ZEW surveys and concerns over the recovery, it is worth watching the DAX index closely for a potential breakdown:

DAXSource: ThinkMarkets and
  • The DAX has been rising inside what looks like a rising wedge pattern. If it now breaks and holds below the support trend of the wedge at 12950 then this will also take us below the 21-day exponential average. If seen, that will be a bearish development for the index potentially triggering further technical selling in the days to come.
  • Conversely, if the index manages to hold its own and rises above 13035 resistance then the bears may get into trouble again, potentially leading to another short-squeeze rally.
Let’s see which scenario plays out first, but judging by the above fundamental factors, a breakdown would not come as a major surprise to me.