The coronavirus (COVID-19) pandemic brought the world a collection of unprecedented humanitarian and economic challenges. From the virus's initial onslaught in late-February to a November surge in infection rates, COVID-19 was a primary underpinning of 2020's global capital markets.
Since the onset of the novel coronavirus, infectious disease experts have warned of a potentially devastating "second wave" of the virus sweeping the globe. As the fourth quarter of 2020 commenced, it appeared as though such a scenario was unavoidable, if not already underway. To address the growing uncertainty, market participants became acutely aware of vaccine development, infection rates and pending governmental responses.
Unfortunately, accurately predicting the market impact of a COVID-19 second wave is problematic, at best. However, the lockdowns, travel bans and quarantines of early-to-mid 2020 had exceedingly negative consequences. If repeated, the economic damage could prove severe and long-lasting.
What Is A COVID-19 Second Wave?
Depending on the source, the definition of a pandemic's "second wave" varies. Nonetheless, it is a common phenomenon. Essentially, a second wave is a dramatic surge in new infections that comes some time after an initial viral outbreak. This scenario may be illustrated per the following evolution:
- First, a disease infects a specific group of the population.
- Second, new infections appear to decrease for a period of time.
- Third, new infections increase in a different part of the population.
While a pandemic is not guaranteed to follow the progression above, the reemergence of any widespread, once-diminished contagion is probable. To quantify how this may occur with COVID-19, the disease specialists at Johns Hopkins Medicine formally identified several potential drivers of a second wave. Below are three factors that could influence the severity of such a viral surge:
- Human Behaviour: Preventative measures such as hand washing, social distancing and mask-wearing are key parts of slowing the virus's spread.
- Regulation: Official policies such as lockdowns and mask mandates can help minimize or delay the onset of a second wave.
- Weather: Respiratory illnesses thrive in the colder fall and winter months. During these seasons, people are largely congregated indoors, which can promote viral spread.
Given the historic pattern of pandemic reemergence, there was reason to believe that COVID-19 would intensify during the fall or winter of 2020. One reason for this assertion was the behaviour exhibited by the Spanish flu pandemic of 1918. During this pandemic (1916-19), the virus infected 500 million people worldwide, claiming between 20 and 50 million lives. Scientists attribute a significant number of these deaths to the flu's second wave of fall 1918.
Taking into account the history of pandemics and the Spanish flu, market participants widely anticipated a COVID-19 second wave. Subsequently, markets saw enhanced participation as the summer of 2020 developed.
Markets Prepare For Second Wave
The March 2020 market impact of COVID-19 left an extremely negative impression on the financial community. For the second quarter (Q2) 2020, global gross domestic product (GDP) fell by a record 9.8%. World financial leaders posted all-time low figures for Q2, led by the United Kingdom (-20.4%), European Union (-12.1%), Japan (-7.8%) and the United States (-9.5%).
Subsequently, forex, stock and commodity market volatility reached historically high levels. One such barometer, the CBOE Volatility Index (VIX), closed the 16 March session at 82.69, eclipsing the previous record posted during the 2008 Global Financial Crisis.
Following the chaos of Q2 2020, market participants began anticipating a resurgence of COVID-19 during the fall and winter months. In fact, Morgan Stanley chief economist Chetan Ahya issued a mid-June statement that summed up the investment banking giant's views on the subject:
"In our base case, we assume that a second wave of infections will occur by autumn, but that it will be manageable and result in selective lockdowns."
Early June sentiments from the Organisation for Economic Cooperation and Development (OECD) suggested that a future surge in COVID-19 was a key concern in their two primary 2020 global forecasts:
"Two equally probable scenarios, one in which a second wave of infections with renewed lockdowns hits before the end of 2020, and one in which another major outbreak is avoided."
As the Northern Hemisphere summer months progressed, optimistic sentiment flooded the world's capital markets. Following sweeping economic reopenings, dovish monetary policy and government stimulus, investors dove into risk assets, commodities and global currencies. From 1 June 2020 to 1 September 2020, the markets showed that sentiment was positive, yet investors appeared to be anticipating a COVID-19 second wave:
- Equities: Global equities markets showed resilience after the shock of March. U.S. large caps led the charge, featuring a DOW 30 rally of 3097 points (+12.2%).
- Commodities: Gold and crude oil posted strong 90-day bullish trends. For USOIL, the gains measured US$7.60 per barrel (+21.5%).
- Currencies: Forex performance over this period was strong for major currencies vs the USD. The EUR/USD rallied 831 pips (+7.4%), while the GBP/USD moved higher by 1017 pips (+8.2%).
Note: Past performance is not an indicator of future results.
Aside from valuations of the USD, most asset classes saw bullish price action throughout summer 2020. However, the rally in safe-haven assets such as gold and the Swiss franc suggested many traders were addressing the uncertainty of a COVID-19 second wave. The primary question facing the world's financial markets was not if a major COVID-19 surge was on the way, but when it would occur.
Resurgence Of COVID-19
Unfortunately, there is no standardised way of quantifying a pandemic's second wave. Statements from the World Health Organisation sum up their broad criteria:
"There is no scientific definition of a 'second wave' nor a specific threshold of cases, [infection] rates. It's about the resurgence of [new] cases."
Technically, a "wave" of anything is made up of peaks and troughs; thus a pandemic's resurgence would have to occur after the recession of new infections. This point for COVID-19 is debatable, as many in the scientific community believe infection rates did not subside enough to form a true "trough" during the summer of 2020. However, according to studies from the U.S. Center for Disease Control (CDC), new infections did decrease during early-summer before increasing in the fall.
When evaluating infection metrics from the CDC, one can argue that a COVID-19 second wave began in September and October of 2020. Further, data from Johns Hopkins University of Medicine shows a radical spike in daily COVID-19 cases on 10 December of 1.493 million. This figure is the high point of a prolonged uptrend in daily cases that began in September; it also signals a dramatic resurgence of the virus, confirming that a COVID-19 second wave may be under way.
Reaction to the fall season surge was regional, yet dramatic. Fresh lockdowns in the U.K., U.S. and EU were instituted in December 2020. Conversely, many nations, including Japan, adopted stay-open strategies. During this period, global markets showed robust stability in comparison to the chaos of March 2020.
What Would A COVID-19 Second Wave Mean To The Markets?
Coming into 2020, no one completely understood the impact that a global pandemic could have on the capital markets. Opinions on the subject were theoretical, hinging on a multitude of variables. Upon Q1 and Q2 passing, the financial world had a much better grasp on what to expect from the market in the face of a pandemic.
Using the first half of 2020 as a template, a COVID-19 second wave could potentially drive the following scenarios:
- Volatility: The uncertainty stemming from a COVID-19 surge is a probable catalyst for increased market participation. As traders and investors evaluate developments, it is possible that the price action of asset classes across-the-board will become erratic.
- Bearish risk assets: Amid the market tumult of March 2020, stocks saw a steep devaluation. Should a second wave intensify, equities will be in a position to decline from pre-surge levels.
- Bullish safe-havens: Initially, the USD was the de facto COVID-19 safe-haven asset. However, traditional safe-havens such as gold and the Swiss franc posted big gains as 2020 progressed. These assets are positioned to hold firm or appreciate during a prolonged viral reemergence.
- Forex upheaval: It is reasonable to believe that each forex currency pair will exhibit unique price action in the wake of a COVID-19 surge. National policies, such as regional lockdowns or commercial restrictions, will drive domestic currency valuations.
Of course, it's important to remember that global capital markets are efficient. External factors such as effective COVID-19 vaccines and treatments may cushion the blow of a prolonged second wave. Such devices could minimise lockdowns and reinforce investor confidence as well as economic stability. If new vaccines and therapies are deemed effective, negative market fallout from a COVID-19 second wave would likely be moderate.
Emergence Of COVID-19 Variants
Throughout the COVID-19 pandemic, health experts warned against viral reemergence following a recessionary or dormant period. One of the ways in which this scenario could unfold was through coronavirus mutation and the creation of new strains or variants. In the first 11 months after the contagion went global (March 2020), scientists documented thousands of previously unknown COVID-19 variants. While most strains had a minimal impact and disappeared over time, the phenomenon prompted fresh uncertainty.
Governments Respond To Variants
During the January and February months of 2021, a collection of new variants garnered extensive media and scientific attention. As of early-February, the U.S. Center for Disease Control (CDC) highlighted three COVID-19 strains of growing concern:
- B.1.1.7: The B.1.1.7 variant emerged in the United Kingdom during the fall months of 2021. This strain is thought to be more contagious than COVID-19 and poses a higher risk of death. As of December 2020, B.1.1.7 was detected in the United States.
- B.1.351: Originally found in South Africa in October 2020, B.1.351 is very similar to the U.K. variant. This new strain was detected in the U.S. in late January 2021.
- P.1: First detected in travelers from Brazil, P.1 features an advanced collection of mutations that confuse antibody recognition. P.1 was found in the U.S. in late-January 2021.
The primary concern regarding these variants is their ability to intensify the spread of COVID-19 while limiting the utility of existing vaccines. According to a 4 February 2021 report from the CDC and the University of Oxford, a total of 104 million people worldwide had been vaccinated against the coronavirus. Given the presence of the variants, questions began to surface regarding vaccine efficacy and the need for further booster shots.
In response to the emergence of new COVID-19 strains, U.S. President Joe Biden issued a late-January proclamation banning travelers from the U.K., Schengen Area, Brazil, South Africa and Ireland from entering the U.S. These measures were similar to those previously adopted by Germany, France and Japan.
Market Reaction To Variants
On the financial front, January and February 2021 proved to be a robust period for equity and cryptocurrency market performance. Conversely, the world's reserve currency (USD) struggled to hold its value vs the forex majors. As the new COVID-19 variants gained notoriety, several key market developments came to pass from 1-12 February 2021:
- The three leading American stock indices reached fresh all-time highs. During the first two trading weeks of February, the Dow Jones Industrial Average (US30,+5.3%), S&P 500 (US500,6.6%) and NASDAQ 100 (US100,+7.5%) all posted lofty gains.
- Similar to U.S. equities, international stock indices exhibited strength to open February. The CAC40 (+4.8%), GER30 (+5.4%) and UK100 (+3.9%) each saw bullish participation.
- Throughout 2020 and early-2021, the USD lagged most forex majors. During the first two weeks of February, key moves in the GBP/USD (+1.2%), USD/CAD (-0.7%) and AUD/USD (+1.8%) highlighted the Greenback's weakness.
- To open February, Bitcoin (BTC/USD, +46.9%) and Ethereum (ETH/USD, +23.0%) spiked to record highs.
NOTE: Past performance is not indicative of future results.
Theoretically, the January 2021 emergence of various COVID-19 variants should have hampered bullish market sentiment. This did not occur. Instead, vaccine distribution, promises of government stimulus and dovish central banking policies spurred the performance of risk assets. Although significant uncertainty was created by the latest COVID-19 variants, traders and investors appeared to have already "priced-in" any foreseeable negative market impacts.
The COVID-19 pandemic of 2020 was one of the most challenging periods in modern history. As of 17 December 2020, 74.3 million cases and 1.65 million fatalities were recorded worldwide. Although vaccines from Moderna, Astrazeneca and Pfizer showed promise, the future spread of the virus remained unknown.
For the financial markets, 2020 proved to be an incredibly interesting year. Euphoric highs and panic lows defined the price action of nearly all asset classes. While the ultimate impact of a COVID-19 second wave or surge may be dramatic, it is likely to pale in comparison to contagion's initial onslaught of spring 2020.
FXCM Research Team
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