by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

Happy Monday!  U.S. equity futures are recovering strongly this morning.  The Fed meets this week; although no new policy measures are expected, we look for the press conference to push for additional fiscal spending.  Tropical Storm Sally (we are on the “S” names!) is bearing down on Louisiana.  This is usually around the peak of hurricane activity; Sally is the 18^th named storm this year, the fastest we have reached this level on record.  We lead off with news about TikTok.  China news is next, with coverage of the China/EU summit.  The latest on Brexit follows.  International news is next, including reports on Iran, Russian elections, Taliban talks and discussions between Turkey and Greece.  The COVID-19 update follows, and we close with market news.  Here are the details:

TikTok:  And the winner is…Oracle (ORCL, 57.00) which is up around 7% in premarket trading.  The company won over Microsoft (MSFT, 204.03), which is off modestly in the early market activity.  The deal structure appears complicated; it may be a sort of partnership rather than an outright purchase.  And it isn’t finished either.  The Committee on Foreign Investment in the U.S. (CFIUS) still must approve whatever is decided.  Data security issues will need to be resolved.  In addition, it isn’t clear whether the Bytedance algorithms, the real value in the company, are part of the agreement (the reason it may be structured as a partnership).

China news:

• The EU/China summit will be held virtually due to the pandemic. The two key topics are economic ties and human rights.  Regarding the latter, the Uighur suppression and the security law in Hong Kong are issues.  The economic issue is that the EU and Chinese economies have become so entwined that the costs of standing up to China over rights have become prohibitive.  The biggest problem is arguably Germany; German investment in China is large, making the country vulnerable to expropriation.  Like the U.S., the EU is also unhappy with China’s trade policy, accusing Beijing of restricting imports.  In a show of power, China has banned pork imports from Germany on the grounds of disease control.  Although Germany has reported a case of African Swine Fever, the disease that has decimated the Chinese pork industry, the more likely reason is a warning shot to Berlin that China is willing to take adverse trade actions.
• In related news, in the wake of the African Swine Fever, China’s agricultural industry is looking to rebuild its herds. The problem is that farmers lack the financing to buy piglets to get restarted.  China’s banks are being encouraged to lend against the livestock itself, a risky proposition due to the uncertainty surrounding the collateral for the loan (even if the hogs are healthy, what banker would want to actually claim such collateral?).  Without a financing mechanism, the rebuild in hog herds will be slow, dampening grain demand.
• The problem with China’s dominance of the rare earths industry has been an issue for about a decade. Rare earths are a bit of a misnomer; they are far from rare.  However, mining and processing these metals are an environmental problem.  Some 25 years ago, China realized that its willingness to tolerate the environmental degradation was a powerful feature, and it came to dominate the industry.  These metals are used in critical components of high technology and defense, and the West is dependent on China for these metals.  In light of this threat, the U.S. government is helping to fund a rebuilding of the U.S. rare earths industry.  It will be difficult to do; U.S. environmental regulations are stricter.  In addition, there is a tort bar in the U.S.  At the same time, without a reliable supply of these metals, the U.S. and the West could be at risk.
• Terry Branstad, former governor of Iowa and current Ambassador to China, is stepping down.

Brexit:  Parliament begins an open debate on the proposed internal market bill, and opposition is growing.  Two former PMs, John Major and Tony Blair, have come out against the proposal.  Twenty Tory MPs are opposed to the measure; that isn’t enough to scuttle it, but the bill might not make it through the House of Lords.  In an interesting note about trade talks with Japan, the U.K. has agreed to a stricter state aid curb than would be required by the EU.  We note that the GBP is strengthening this morning; it is possible that the financial markets are leaning toward a failure of Johnson’s measure.

International news:

• Last year, the U.S. assassinated Qassem Soleimani; Iran’s retaliation was a series of missile strikes in Iraq. To us, this seemed like a rather modest response.  Apparently, Tehran was considering other measures.  Over the weekend, there were reports Iran is considering an assassination attempt on Lana Marks, the U.S. Ambassador to South Africa.  The articles used present tense, which seems a bit odd; once a plan is reported in the press, it becomes common knowledge and is probably less likely.  This news indicates that Iran is considering other measures.  It is normal behavior for Iran to bide its time in retaliation, and thus we should not expect that the earlier missile attack is the only action we will see on this front.
• Yoshihide Suga was elected as the new head of the LDP, all but assuring that he will become the next PM.
• Although the United Russia party has claimed victory in local elections, the opposition did win some local government seats.
• Afghan leaders are meeting with the Taliban for direct talks. It is the first time the two groups have met directly. The talks, brokered by the U.S., are being held in Qatar.  The two sides have little in common.  Most observers indicate the best outcome is some sort of ceasefire.  We doubt it will hold in the long run, and we expect a civil conflict to re-emerge.
• Greece and Turkey have seen an escalation of tensions over refugees and Cyprus. The two sides are working to start talks in a bid to improve relations.  One favorable sign is that Turkey is sending a second drill ship to the region around Cyprus, and Greece has lauded the action.
• Belarus President Lukashenko is heading to Sochi to meet with Putin today. Lukashenko is clinging to power and clearly needs the support of Putin to remain in office.  We suspect the cost to Lukashenko is essentially that Belarus will be reabsorbed into Russia.  Putin has indicated he would like to rebuild the old Soviet Union.  Belarus would be a start.  Over the weekend, massive protests against the government continued.
• Germany has been in a difficult position on the Nord Stream 2 pipeline project. The country needs additional natural gas to manage its energy needs. It would like to avoid pipelines that run through Ukraine, which are prone to supply curtailments when Moscow and Kiev have spats.  At the same time, the U.S. is trying to get Berlin to kill the project, and Russia’s behavior makes agreeing to continue the project difficult.  Actually killing the project would be difficult for Germany, but we would not be surprised to see them “slow walk” it with many procedural delays.

COVID-19:  The number of reported cases is 29,030,058 with 924,814 deaths and 19,648,306 recoveries.  In the U.S., there are 6,520,606 confirmed cases with 194,084 deaths and 2,451,406 recoveries.  WHO reports 307,930 new infections, the highest single-day total for the world.  For illustration purposes, the FT has created an interactive chart that allows one to compare cases across nations using similar scaling metrics.  The FT has also issued an economic tracker that looks across countries with high frequency data on various factors.

Virology: 

• A surge of cases in Israel has triggered another lockdown.
• There is a growing worry that drug makers are not disclosing safety issues surrounding vaccine development. Given the general level of vaccine skepticism, there is a concern that the lack of disclosure will increase fears of accepting a vaccine and thus reduce immunity.
• The lack of vaccine production capacity will likely prevent full distribution of a vaccine until 2024.

Economic and market news:  Canada is preparing retaliatory tariffs on U.S. goods in response to American tariffs on aluminum.   Turkish investors are buying gold as the lira weakens.  They are also purchasing home safes for storing it.  South African miners are thriving as high gold prices and a weak SAR are improving margins.  Redfin (RDFN, 48.36) reports its calculation of median home prices is up 13%, and housing activity is strong.  Working from home has encouraged households to seek larger homes in more affordable areas.  One interesting development is that some tech firms are considering cutting pay to workers who leave high-cost areas, such as the Bay area.  We will watch to see if there is a pushback on this idea.  Although adjusting pay to local costs is clear in the wage data, that isn’t how workers view their pay.  Most of us view our pay as a measure of our work value.  Finding out that some of it is attributed to where we live will likely prove to be unpopular.  One of the issues we are watching is the availability of credit to smaller agricultural entities. In general, banks tend to feel more comfortable lending to larger firms; if financing to small farms and food processors dries up, it could lead to further industry consolidation.

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