Virus Overshadows All as Traders Brace for 2020 Fed Rate Cuts

Terms of Trade is a daily newsletter that untangles a world threatened by trade wars.Sign up here. 

Traders are so fixated on the coronavirus that, in the absence of compelling reasons to do otherwise, they’re piling intohedges in case the contagion is a disaster for the global economy.

Much of the activity involves bets that the Federal Reserve will feel increased pressure to reduce interest rates. Aflurry of eurodollar options trades emerged this week that profit if the central bank delivers more than the one-to-two quarter-point cuts already priced in for 2020.

During the holiday-shortened week ahead, there’s little in the calendar of events that looks likely to pull investors away from virus headlines.

“The impact of the virus on the global economy is going to be significantly more than what people are expecting, and when the global economy goes south, the Fed steps in,” said Tony Farren, managing director at broker-dealer Mischler Financial in Stamford, Connecticut.

Farren is paying more attention than usual to Australian data, given the country’s dependence on China, seeking clues about any spillover effects from thevirus called Covid-19. A March rate cut by the Fed would surprise him, “but June is possible and poor economic data in the summer would open the door to cuts in September and possibly December,” Farren said.

Minutes of the Federal Open Market Committee’s Jan. 28-29 meeting, to be released Wednesday, cover a period in which policy makers were stillmonitoring the virus originating from China.

A more real-time view — Treasuries trading from the past few days — shows market participants are worried about the economy’s prospects. A flight-to-quality move ahead of the three-day weekend drove the widely watched spread between 2- and 10-year yields to theflattest level since November.

Strategists atDeutsche Bank AG andCredit Suisse Group AG argue the Fed could be forced to cut rates by July.

Citigroup Inc.’s Calvin Tse is bracing for markets to price in a preemptive March reduction. This week herecommended a trade involving the overnight index swap dated around the March 17-18 meeting of Fed policy makers. The swap only implies a slight chance of easing. But if those odds increase, “this trade can make a lot of money,” he said in an interview.

What to Watch