The tide has turned in the war against the virus
Is this really the beginning of end, and what does it mean for financial markets?
The number of new Covid cases globally has fallen by two-thirds since the peak a month ago. Most of this reflects tough lockdowns – it’s too early for vaccines to have had a big impact globally. But the fall is consistent, with almost every country seeing declines in new cases week on week.
As we know, the pace of vaccine roll-out is highly variable across different countries. But in those countries where the program is most advanced, like the US, UK and Israel, the decline in new cases is greatest amongst those groups that have already been vaccinated. And remember, the numbers for vaccine efficacy reported in the trials of the leading vaccines were high for preventing you getting symptoms. Efficacy for keeping you out of hospital was even higher, close to 100%.
Pent-up demand is building…
In some countries, lockdown easing has already begun – New York City opened indoor dining for Valentine’s Day – and while most other countries, notably in continental Europe, are likely to ease lockdowns more slowly, it does seem to us that the trend is clearly positive. A wave of pent-up demand will be unleashed, for everything from restaurant meals to haircuts to weddings. That wave will be greatest in the US where much of last year’s massive fiscal handouts are still sitting in people’s bank accounts and the incoming Biden administration looks set to dole out even more. Combined with the outgoing Congress package of $930 billion, the total stimulus over the next few months looks set to reach 15% of GDP. A truly massive number.
…and so will inflationary pressures
This is good news for equities and bad news for bonds. Yields on 10-year US Treasuries have risen by 30 basis points since the Democrats won both seats in the Georgia Senate run off, giving them the casting vote majority, which should enable them to roll-out their huge stimulus plan. Breakeven inflation has also risen, alongside rises in oil and other commodity prices. With such a surge in demand, inflationary pressures are sure to rise. The big question is: will inflation get out of control and require the Fed to raise rates? If so, the bull market in equities would be over.
The honest answer is: we don’t know. Economists, including those at the US Federal Reserve, have been very bad at forecasting inflation in recent years. But one thing is clear, the Fed wants inflation to run hot for a while. They want to see inflation exceed their 2% target on a consistent basis to offset the years that it has fallen short of this target. This is their new average inflation framework. So, the scene is set for better corporate profits and a further rally in risk assets. But bond yields look set to rise further, and yield curves to steepen.
Roadmap out of lockdown to be announced soon
Meanwhile back in the UK, the vaccine roll-out continues apace. The government’s key metric is the number of patients in hospital with Covid. At the peak last month, this hit just under 40,000 and the NHS was bursting at the seams. Since then, the numbers have fallen dramatically, down 41% as of last Thursday and a decline of 20% a week. Pressures to ease the lockdown will prove irresistible – and we expect Boris Johnson to strike an optimistic tone later this week when he announces the roadmap out of the lockdown.
What could go wrong with this optimistic scenario?
The obvious answer lies in variants that ‘escape’ the vaccines. The leading vaccines all seem to be less effective against the South African and Brazilian variants. But efficacy is reduced not eliminated. Later this year, the designers of the vaccines will have tweaked them to improve their efficacy against the new variants. And that may be a pattern for years to come. But once the world has been vaccinated against Covid the disease will be much less of a threat. We will learn to live with this dreadful disease, rather like the flu.
The UK has taken extraordinary steps to limit the spread of the South African variant, with door-to-door testing and new punitive restrictions on foreign travel. Easing those restrictions will take much longer. But I’m still confident that I’ll be able to enjoy a glass of lemonade after a round of golf over Easter. I might also get my haircut but to be frank, that’s not high on my list of priorities.