The Week Ahead
No sooner had President Trump announced the end of the possibility of a fourth stimulus package on Tuesday, dragging the markets quickly into negative territory, did he then change his mind and say, in fact, that negotiations for a new package of fiscal stimulus measures was back on the table. These discussions will presumably continue this coming week, and the risk markets are signalling that success is likely.
The 2nd presidential debate scheduled for this week is off, although earnings season fortunately is not. Most major U.S. banks reporting earnings this coming week, undoubtedly setting the tone for the cycle.
PM Boris Johnson has put a deadline of October 15th (this coming Thursday) for an agreement with the EU on a trade agreement, but the EU has said that they will call his bluff. As with the US fiscal stimulus package, markets seem to be indicating something will be agreed, but you wouldn’t know if from the rhetoric.
Monday is a holiday (Columbus Day) in the U.S. with the bond market closed, but U.S. equity markets will be open as usual.
What Happened Last Week (summary)
As far as the financial markets, last week was solidly “risk on”. Risk assets including equities and credit both experienced good returns whilst risk-off assets, including US Treasuries and the US Dollar, sold off.
It felt like total capitulation by sceptical investors because there was plenty of news that could have rattled the market - no agreement on an additional round of stimulus in the US, worsening CV19 cases especially in Europe, an approaching (and contentious) US Presidential election, an ongoing UK-EU post-BREXIT trade agreement stalemate, and antitrust threats in the US against “big tech”. FOMO is carrying the day as we settle back into a momentum-driven market.
There was the small matter of a Vice Presidential debate last week, and in case you’re wondering, the cover photo is to commemorate the infamous “Number 2” from the Austin Powers trilogy.
Global Equity Markets
It was the best week in the US equity markets since the first week of July, with the US benchmark index improving 3.7% for the week. The other indices I track followed suit, with all of them in the green, even the laggard FTSE 100. Equities in Japan have nearly clawed back their losses for the year, turning in the second best performance YtD (-0.2%) behind the S&P 500 (+7.6% Ytd). Although not in the table below, for reference the Shanghai Composite index (China) has returned 7.3% YtD, reopening Friday after being closed for several days in celebration of Golden Week.
FAANG stocks came under some pressure earlier in the week as House antitrust subcommittee panel released a 449-page report calling for the break-up of tech giants. John Authers (Bloomberg Opinion) covered this very well in his article “antifang” on Wednesday morning, which is worth reading - you can find it here (see second section). It is hard to provide a likelihood of antitrust action because this threat always seems to be out there, if not in the U.S. then in Europe. Still, the FAANG+M stocks shook it all off. Even though they are closed down on Tuesday (antitrust report + Trump ending fiscal stimulus discussions), they returned to form afterwards gaining 4.1% for the week (market cap weighted) vs 3.7% for the S&P 500, playing a well-documented role in advancing the more tech-heavy indices.
3Q2020 earnings start this coming week, kicking off as usual with the large U.S. banks reporting. JPM and Citi report Tuesday, Wells Fargo, BofA and Goldman on Wednesday, and Morgan Stanley on Thursday. Super-low interest rates will undoubtedly negatively impact bank profits, but I would imagine that better-than-expected loan losses and trading gains will offset some or all of the lower net interest margin. The FAANG+M stocks start reporting the following week, starting with NFLX on October 20th and ending with AAPL and FB on October 29th. And for those TSLA lovers / haters, TSLA releases its earnings on October 28th. Let’ get ready to rumble!
Credit Markets
“Risk on” sentiment this past week led to a strong rally in high yield bonds, as spreads in the high yield indices screamed tighter by around 40bps across the credit spectrum. BBB corporate bonds also rallied, improving by 9bps. The high yield market in particular seems to have shaken off the concerns regarding funds outflows that were grabbing headlines in late September. Keep in mind though that the “800 pound gorilla” – the Federal Reserve – is providing support for the U.S. corporate bond market as a buyer in the primary and secondary markets. In spite of this, the curve for trajectory of defaults seems to be lower (i.e. better) than expected during the darkest days of the economic downturn, and the winners and losers are fairly obvious assuming the gradual economic recovery continues.
Safe Haven Assets & Oil
With the exception of gold (see more below), safe haven assets generally weakened last week as investor sentiment shifted towards taking more risk. US Treasuries sold off during the week, with the yield on the 10-year UST increasing to 0.79% by the close on Friday, 9bps higher on the week. The US Treasury curve yield curve steepened, with the 2-10 year spread hitting its widest levels since early June, a tilt towards a more bullish view of the US economy. As investors shifted back into riskier assets, the safe-haven US Dollar continued its slide, closing the week down 0.8% (93.06) against a basket of currencies. Gold, which increasingly has a life of its own, bucked the trend, at least if you consider it primarily a risk-off asset class, increasing to $1,930.43/ounce, a gain of 1.6% for the week. Perhaps this reflects an increasing concern about future inflation, although most global economies are operating so far under capacity that I am more worried for now about deflation than inflation.
In line with a slightly more euphoric feeling generally in financial markets, oil also improved last week as the global economic outlook seemed to brighten, pandemic and other economic risks aside. WTI crude closed the week back above the important threshold of $40/bbl at $40.53/bbl (+9.5% for the week), having in fact spent much of the week in the $40-$41/bbl context.
Economics & Politics
The focus as far as economics and politics is squarely on the U.S. at the moment in the run-up to the Presidential election on Nov 3rd, and there was plenty of news Stateside to keep sentiment in the financial markets “bobbing & weaving” during the first half of the week. President Trump returned home from Walter Reed Medical Centre on Monday evening and within hours released a barrage of tweets covering typical Trump topics. However, the piece of news that rattled the financial markets on Tuesday heading into the close was the President announcing that he and fellow-Republicans would abandon discussions with the Democrat-led House on a further fiscal stimulus package until after the election. I never expected this, and apparently, the markets didn’t either. Throwing in the towel on further fiscal stimulus was even more startling coming just after Fed Chairman Powell had said in virtual conference earlier that day that additional fiscal stimulus was absolutely necessary to keep the US economic recovery on track. However, President Trump – in usual fashion – walked back from his position later in the week as news began to surface that in fact the negotiations for a new fiscal package were continuing and the bid-ask was getting tighter, albeit closer to the current House-approved Democratic figure ($2.2 trillion) than I thought ever possible. I think something will get done – and the financial markets do too – although I have moved from a size guestimate of $1.5 trillion to the $1.8 trillion area. This week should tell.
The UK and EU remained at loggerheads over a post-BREXIT trade agreement, with the thorny issue apparently being fishery rights between EU-member France and the UK. PM Boris Johnson said a deal has to be done by October 15th(Thursday) or there will be no deal, and the EU seems perfectly willing to call his bluff. Behind the scenes though (not dis-similar to discussions in the US regarding another round of fiscal stimulus), a deal is reported to be close at hand. Again, next week is important in this respect. On Friday, Chancellor Rishi Sunak announced that the Job Support Scheme in the UK would be expanded such that employees that work for firms forced to shut because of CV19 restrictions would get 2/3s of their pay up to £2,100/month for six months. As with fiscal stimulus schemes elsewhere in the world, some think this isn’t enough and others think the scheme costs the government too much.
In the EU, France’s economy (2nd largest in economic bloc) looks to be stagnating according to French statistical service Insee, which revised GDP growth for 4Q20 from 1% down to 0% based on consumer sentiment surveys, as government efforts to quell recent upticks in cases of CV19 caused business investment and consumer spending to slow. I can only imagine that similar revisions might be in store for other countries that are trying to slow the resurgence of CV19 in their countries.
Returning to the US, most polls have Democratic challenger Joe Biden ahead in the polls leading up to the election. Of course, one must remember that polls aren’t always reliable, and also that electoral votes (rather than popular votes) determine the winner in a US Presidential election. Both were on display in the 2016 election, as polls gave the nod to challenger Hillary Clinton and ended up being entirely wrong, and Mr Trump became President even though he lost the popular vote in the U.S. by around 3 million voters. Drawing any conclusions at this point would be dangerous, although I am convinced financial markets are increasingly reflecting the possibility of Democrats taking the White House. What are the major issues? I see them as follows:
1. Pandemic/CV19,
2. US-China,
3. Healthcare (post-CV19),
4. Environment,
5. National debt/deficit, and
6. Economy (recovery, unemployment, growing wealth inequality)
There are others, but these are the ones that matter most to me.
I suppose it would be wrong to close this section without mentioning the small matter of the Vice Presidential debate last week. VP debates never matter much, but I personally found it much more informative – albeit much less entertaining – than the Trump-Biden debate the week before. At least there was more mutual respect and decorum during this debate, and both candidates were able to state their positions and answer questions without constant interruptions from the other.
COVID-19
I read an article this week published in The Economist – “Pandemic fatigue might be setting in across much of the world”– stating in summary that compliance for measures to slow the spread of CV19 fell in most countries between April and September, including things like avoiding crowded public places and hand washing. Fortunately, the one thing that has increased dramatically is wearing of face masks. This relaxed behaviour certainly explains much of the recent increases in CV19 in parts of Europe (U.K., Spain and France) and increasingly in parts of the US, forcing governments to take more dire steps (for the economy at least) to slow and hopefully reverse the increase in the spread of the virus. Moreover, it is clear that government action is often slow, inconsistent and difficult to rationalise for many people, adding to confusion and uncertainty.
As cases of CV19 increase but mortality fortunately seems to be falling, I thought the graph to the right (sources: Johns Hopkins and World Bank, from NYT) might be interesting, which illustrates the trajectory of deaths/million in the US, Europe, Canada and Japan. As it indicates, the US has the worst performance as far as deaths/million from CV19, a key issue (i.e. handling of the pandemic) in the upcoming Presidential election.
Call me a traditionalist (which I readily admit), but it is difficult for me to understand how markets can be so immune to the resurgence and ongoing economic effects of the pandemic.
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