June 2020 ECB Meeting

Backdrop

Given the ECB’s dovish rhetoric in May and the impact of the COVID-19 crisis on global economies, market expectations ahead of the meeting were for an another increase in the Pandemic Emergency Purchase Package (PEPP). Since the beginning of the crisis, the ECB has so far deployed EUR 340bn. The market was looking for an additional EUR 500bn on top of the existing EUR 750bn PEPP.

As broadly expected, the ECB made no changes to rates. However, they have delivered a slightly bigger PEPP amount than consensus expectations of EUR 600bn. Importantly, they also extended purchases to at least June 2021 and will continue reinvestments until at least the end of 2022.

During the press conference, ECB President Christine Lagarde said that the economy is showing signs of bottoming out. The severe job and income losses have led to a slump in consumption, which will lead to an unprecedented Q2 contraction. Inflation will continue to be dampened by supressed energy prices and is expected to drop further in the coming months. The ECB also revised its growth targets, with 2020 GDP expected to shrink by 8.7% and to increase by 5.2% in 2021 and 3.3% in 2022.

Market Impact

Following the announcement, the EUR rallied to highs not seen since March, European equities continued to push higher and yields recovered. During the press conference, initial market moves retraced some of their earlier gains.

Asset Allocation Consequences

Monetary and fiscal responses following the COVID-19 crisis have been unprecedented in size and scale. This ECB meeting was further evidence that central banks will continue to do “whatever it takes”. Balance sheet expansion will continue in an effort to counter the large global macroeconomic shock. Nevertheless, the response is not uniform and dispersions are large given disparities in the size and the way that support was delivered. The Fed is clearly ahead, with its balance sheet now in excess of USD 7tn and likely to continue expanding to reach up to 50% of US GDP. The ECB is also now delivering a large stimulus: the PEPP program alone should amount to around 10% of Eurozone GDP. Other central banks such as the Norges Bank have indicated that recent rate cuts will be their last.

Following a more defensive positioning during the peak of the COVID-19 crisis, we have recently turned more neutral / opportunistically positive on selective growth assets as the macro picture improves and sentiment stabilises. We are currently overweight global equities with an underweight in real assets. Our beta exposure is currently around our long-term average.

  • Macro: This is one of the biggest macroeconomic shocks since the Great Depression. However, given the unprecedented monetary and fiscal response, we view the current situation as more balanced. Contrary to previous recessions, the current shock could be short lived. Our proprietary Growth Nowcaster indicators have recently shown that the worst is likely behind us. Our proprietary Newscaster has recovered sharply, and is almost back to positive territory, up from very depressed levels. We expect the macro situation to continue to improve from here.
  • Market Sentiment: Sentiment is gently improving as economies re-open, and market stress is declining. Even recent heightened geopolitical tensions have failed to derail this improvement. Cash levels remain high and there is still plenty of room from systematic strategies to add beta participation.
  • Valuation: Growth assets remain attractive in spite of the recent rally while real assets are on the expensive side. Large dispersions remain across both sectors and countries.

 


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