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

[Posted: 9:30 AM EDT] | PDF

Good morning and happy World Philosophy Day!  The winter surge in the pandemic is weighing on risk markets this morning.  We update the progress of the Eurobond; delays have cropped up.  We also update the EU’s stance on tech firms.  There is a lot of news on China, including rising tensions with Australia. We update the pandemic news.  Brexit is coming to its deadline, and a deal remains elusive. We are seeing South Korean interest in U.S. real estate.  Mexico and the U.S. come to an agreement on the arrest of the former defense minister.  We close with economic odds and ends.  And, being Thursday, the Weekly Energy Update is available.  The next report will be published on December 3.  Here are the details:

EU:  The proposed Eurobond has hit a snag; Poland and Hungary oppose the program’s requirement for following the “rule of law” to receive funds.  The EU has been critical of both countries for their actions to undermine the independence of the judiciary, and both nations fear they will be shut out of funds from the EU budget.  Thus, they are using their veto to stop the budget from passing.  Our position is that the issuance of a Eurobond will be bullish for the EUR; if the budget fails, we will have to reconsider our position.  We still believe that a deal will eventually be struck.  But, the requirement of unanimity remains a stumbling block for Europe to act decisively.  We do note that the actions Poland and Hungary have taken are unpopular within the EU, so making a deal could be difficult.

• The EU auditor has determined that the actions taken by Brussels have failed to restrain the large tech firms. The audit found that antitrust probes were too slow.  By the time an enforcement action was taken, the larger firms were entrenched.
• Google (GOOGL, USD, 1740.64) has apologized to Thierry Breton, the EU internal market commissioner, for targeting Breton to undermine his plans for antitrust policy. An internal company document about the campaign was leaked and shows how the company planned to use various tactics to discredit the effort.

China:  Here are the highlights on China.

• One key trend we highlighted with the election of Donald Trump was the tension between the establishment and the populists. That situation crossed party lines and national boundaries.  Now, with the growing likelihood that Joe Biden will be president, the establishment is pressing for a return to the status quo before Trump.
  • Singapore’s PM Lee Hsien Loong offered advice to Biden, suggesting that he should develop an “overall constructive relationship” with China. Leaders across Asia do not want to be forced to choose between the U.S. and China.  They want the security guarantees from the U.S., but they also want to capture the economic activity of China.
  • The U.S. Business Roundtable is urging Biden to ease tariffs on China and engage in trade talks. If a business is hit with a tariff and lacks the market power to pass along the price increase from the tax, the business bears the incidence of the tariff.  Thus, reducing tariffs would be positive for a business’s bottom line.
  • Overall, we doubt a return to globalization, and the previous U.S. role is likely. Biden may want to see that, but the arc of history appears to be bending toward a withdrawal of U.S. hegemony.
• Japan and Australia have agreed on a plan to increase military cooperation. This historic decision is important for two reasons.  First, it increases cooperation among the nations surrounding China without the U.S. as part of the equation.  Second, it is supporting Japan’s steady ending of its pacifist stance, which will become increasingly necessary as the U.S. withdraws from hegemony.
  • Tensions between China and Australia have been elevated. In a recent press conference, Zhao Lijian, a Foreign Ministry Spokesman, laid all the blame on Canberra.  A list of 14 disputes were sent to Canberra with threats to disrupt economic relations between the two countries.
• We continue to watch the travails of the Chinese corporate bond sector. Tsinghua Unigroup (600100.SS, CNY 6.83) is the latest firm to default, this time on a domestic CNY bond.  As we noted earlier, these problems have led to delays in new issuance.  Debt turmoil is a new concept for China.  Until 2014, it was illegal.  China is slowly moving to create a more modern financial system that will include defaults.  The problem with allowing defaults is that it is nearly impossible to know if a default will lead to systemic problems.  For example, we doubt the Bush administration thought that allowing Lehman Brothers to fail would cause the Great Financial Crisis.  Chinese authorities (and frankly, no financial regulator) want to avoid the systemic event but also disabuse lenders and investors of the notion that firms, even SOEs, will always be bailed out.
  • The default of Tsinghua Unigroup raises questions about China’s drive to develop its domestic semiconductor chip industry.
  • Yongcheng Coal and Electric Company has until November 24 to make payments and avoid defaults on some of its other bonds.
    • Government regulators are threatening to sanction Haitong Securities (600837, CNY, 13.13) for assisting the aforementioned coal company in issuing bonds illegally.
  • Tunghsu Optoelectronic Technology (000413, CNY 2.52) has failed to make interest payments on $10 billion of outstanding bonds.
  • In the wake of the Great Financial Crisis, China developed its own credit rating agencies. It rates a bit more than half of China’s onshore corporate debt as AAA.  However, one of the key criteria for that rating is based on the perception of government support.  The recent defaults of SOEs raises questions about the degree of support that government’s will provide to debt service.
• Henry Kissinger warns that U.S./China relations show strong similarities to British/German relations before WWI. We agree with that historical analogy.
• President Trump intends to represent the U.S. at tomorrow’s APEC summit, which will be held virtually. The president last attended this meeting in 2017.  Under most circumstances, such meetings are generally not controversial, although given the recent rise in tensions between the U.S. and China, this one might be interesting.
• China has issued debt in EUR and was able to borrow at a negative yield. The offering, in total, was $4.7 billion.  The offering was popular, with a bid/cover ratio of 4.5x.
• The Shanghai International Energy Exchange announced it will start trading copper futures denominated in CNY. China is the world’s largest consumer of copper, which should boost activity for this new contract.
  • As hog herds rebuild, demand for foreign pork is declining. China has been reporting that COVID-19 has been found on imported frozen food, which may discourage imports.
• One of China’s historical patterns is that it can be unified but poor, or rich and divided. Specifically, during the rich periods, coastal regions tend to do very well while the interior lags.  The coastal regions engage the world and prosper through trade.  China did see its economic situation improve during the period of colonial incursion but was deeply divided.  During periods of unity, China withdraws from the world; the country is unified, but the coasts are as poor as the interior.  This was Mao’s policy.  The last two governments in China are trying to lift the interior without losing growth.  Although this is a reasonable goal, there is no historical precedent.  Xi’s plan is to move entrepreneurs to the interior to spur economic growth.

COVID-19:  The number of reported cases is 56,394,215 with 1,352,188 fatalities.  In the U.S., there are 11,531,451 confirmed cases with 250,548 deaths.  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.  The map below shows infection rates by county.  What is striking is that the coasts are seeing much lower infection rates, which may reflect growing natural immunity.  The coasts suffered the brunt of the virus in the spring; now, the interior is facing rising infections.

Virology: 

• China has traced the first COVID-19 case to November 17, 2019, meaning it’s been a year since the virus began to emerge.
• One of the problems to develop during periods of stress that triggers consumption surges is the issue of price gouging. Economic theory is pretty clear on this topic—the surge in price that is often considered “gouging” is the signal necessary to boost production.  If prices don’t rise, shortages develop.  Still, there is a sense of unfairness that emerges when plywood or battery prices jump in the midst of hurricane preparation.  So, many states have enacted laws against price gouging.  As the pandemic wears on, retailers are being hit with lawsuits and other actions over gouging violations.
• The pandemic is having a psychological impact. Reports from hospitals suggest that the surge in cases is wearing down medical workers.  Meanwhile, in Germany, protests against pandemic restrictions turned violent.
• One of the concerns surrounding COVID-19 is the duration of immunity after infection. Antibodies, for example, seemed to dissipate in about six months, and there have been reports of re-infection.  However, a recent study suggests that lasting immunity, perhaps the strongest immunity, called “sterilizing immunity” may follow an infection (and hopefully a vaccination).  The key to long-term immunity is the development of T-cells against the virus.
  • The vaccine being developed by Sinovac (SVA, USD, 6.47) is showing disappointing results, generating fewer antibodies than a person infected by COVID-19.

Brexit:  As EU leaders meet today, there will be no briefing on Brexit because of the lack of progress.  Although we still expect a deal to be made, there is evidence that the EU stance is hardening, which may restrict the ability of negotiators to reach an agreement.  The GBP has weakened on these reports.  Meanwhile, U.K. industry is warning that, even with an agreement, it will need six months to prepare border checks.

Real estate:  South Korean investors have been flocking to U.S. commercial real estate this year.  The combination of dollar-low interest rates and hedging costs has encouraged South Korean institutions to increase their exposure to the U.S. real estate market.  These flows act to partially offset the loss of Chinese real estate investment.

Mexico:  In mid-October, the U.S. arrested Salvador Cienfuegos, Mexico’s former defense minister, on charges he was working with drug cartels.  At the time, the arrest was controversial; it’s not that the charges were not necessarily true, but the diplomatic damage it incurred was significant.  After further consideration, the DOJ decided to drop the charges against Cienfuegos.  It isn’t clear whether this decision will reverse the damage to relations with Mexico.

Economic odds and ends:  Here are a couple of items worth noting.

• In the aftermath of the 2007-09 recession, state and local government revenues fell sharply. Since these governments lack monetary sovereignty and face balanced budget requirements, the drop in revenue leads to spending cuts.  We are starting to see evidence of a repeat of the last recession.  If the next fiscal package fails to offer support for these governments, we would expect the recovery to be less robust.

For the first time since 2013, S.W.I.F.T. reports that the EUR was the most used currency for global payments in October.  However, the dollar remains the dominant reserve currency, used in 85% of all forex transactions and 61% of foreign reserves.

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

[Posted: 9:30 AM EDT] | PDF

Our Daily Comment today opens with the latest news regarding the U.S. presidential election and transition.  In sum, all trends in terms of legal challenges and transition procedures appear to be moving in favor of Vice President Biden.  We also note a number of policy developments, including new difficulties concerning Judy Shelton’s nomination to the Federal Reserve’s Board of Governors.  We end with the latest developments surrounding the coronavirus pandemic.

U.S. Presidential Election:  President Trump has fired Chris Krebs, the top U.S. election security official, after he contradicted the president by saying the November 3 election had been the “most secure” in history.  Separately, the Wayne County Board of Canvassers in Michigan unanimously certified Vice President Biden’s win in the area around Detroit after an initial deadlock on the decision.  Finally, the Pennsylvania Supreme Court dealt another legal setback to the Trump campaign by ruling that the city of Philadelphia allowed ballot observers to watch the vote count in accordance with election law.  The ruling demonstrates how the Trump campaign is struggling to come up with evidence of significant election irregularities that can hold up in court.  With every such ruling, it is becoming ever more certain that Vice President Biden will be inaugurated in January as scheduled.  That certainty, in turn, should buttress the financial markets, at least in the near term.

U.S. Presidential Transition:  As the Trump administration continues to withhold information and resources from President-elect Biden, some national security officials are considering unofficially meeting at off-site locations with members of Biden’s team and providing unclassified information, which they would be allowed to do.  Separately, Biden named several members of his White House staff, including:

• Jen O’Malley Dillon, Biden’s campaign manager, as his deputy chief of staff.
• Mike Donilon, a chief strategist on the campaign, as a senior adviser to the president.
• Steve Ricchetti, Biden’s campaign chairman, as a counselor to the president.
• Rep. Cedric Richmond, a national co-chair of the Biden campaign, as a senior adviser to the president and director of the White House Office of Public Engagement.

U.S. Federal Reserve:  Faced with a likely vote against President Trump’s nomination of Judy Shelton to the Fed’s Board of Governors due to some Republican senators being out sick with COVID-19, Senate Majority Leader McConnell postponed the vote until later in the week.  However, even if the missing legislators are back by then, the confirmation could be scuttled if only one additional Republican defects on top of the three that have already declared they will vote against Shelton for her unorthodox beliefs regarding monetary policy.

United States-China:  Republicans on the Senate Foreign Relations Committee today will release a report recommending that the U.S. work more closely with European partners, the United Nations, and other market-led democracies in order to counter China’s rise and malign international behavior.  Since that strategy dovetails well with Vice President Biden’s approach, it suggests at least a modest rejuvenation of the U.S.’s traditional allied approach to international challenges.  However, because of the U.S. population’s continued preference to step back from the country’s hegemonic role, it’s not clear how broad or how far such a new system of alliances can go.

Israel-Syria:  The Israeli military said it struck Iranian and Syrian military targets in Syria after Iran-backed fighters placed improvised explosive devices on the fence separating Israel and Syria.  As always when there is military action in the oil-producing region, the risk of a widening conflict that could disrupt oil production may give a boost to global crude prices today.

COVID-19:  Official data show confirmed cases have risen to 55,769,818 worldwide, with 1,341,209 deaths.  In the United States, confirmed cases rose to 11,361,394 with 248,707 deaths.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• Newly confirmed U.S. infections totaled 161,934 yesterday, while hospitalizations rose to 76,823.  Those in intensive care units also remained high, as did deaths.  The new wave continues to push various states toward tighter restrictions ranging from mask mandates to the closure of some businesses, although the lock downs so far remain less stringent than during the first wave in the spring.  Similar trends continue in much of Europe, with a few exceptions like Norway and Finland.
• With additional data on their experimental vaccine now in hand, Pfizer (PFE, 36.04) and BioNTECH (BNTX, 86.93) said the compound was 95% effective and produced no safety issues.  According to the report, the vaccine offers protection against both mild and severe infections, and it’s 94% effective in older populations that are at greater risk from the disease.
  • The companies said they will apply to the FDA for emergency use authorization for the vaccine “within days.”
  • While the Pfizer/BioNTECH compound still has some ease-of-use disadvantages compared with the shot under development by Moderna (MRNA, 93.15), the additional data should bolster optimism about the vaccines, even as concerns about resurgent infections cloud the short-term outlook for the economy.
  • Naturally, the vaccines aren’t just boosting investor optimism about longer-term economic prospects, but also about the pharmaceutical firms themselves.  However, one cautionary note is offered by South Korea, which revealed that it will push off signing contracts for the new vaccines until it can get better pricing.  That serves as a reminder that some Asian countries that have long since gotten the virus under control may not be large, lucrative markets for the drug makers.
• A group of developing countries, led by South Africa and India, said they will press at the World Trade Organization this week to free COVID-19 vaccines from patent protections, so they can be more accessible and affordable for poor countries.  The proposed waiver pits the developing nations against the U.S., the European Union, Japan, and other wealthier countries, as well as Western pharmaceutical companies, which say respecting intellectual property rights is key to promoting the rapid development of the vaccines.

 Economic Impacts

• With the Fed pinning interest rates close to 0% and the budding economic recovery pushing inflation higher in recent months, “real” yields in the U.S. have fallen deeply into negative territory again, prompting increasing demand for high-yield bonds and pushing spreads back down to levels last seen in February.  Looking forward, however, trends in the market for TIPS suggest investors still expect inflation to remain under wraps in the longer term, reflecting not only the disinflationary impacts of the virus but also structural issues like slowing population growth.  The ten-year break-even inflation rate in the TIPS market now stands at approximately 1.72%, nearly the same as in February.
• With China being first in and then first out of the pandemic crisis, and with its strongly rebounding economy as the U.S. and other major Western countries face a resurgence in infections, foreign investors are plowing money into the Chinese economy.  Official data show foreign direct investment in China rose in October for the seventh straight month, jumping 18% year-over-year to approximately $11.8 billion.  While that number is significant in itself, the overall trend also suggests that once the pandemic is a thing of the past, China will have improved its global economic and geopolitical position at the expense of the West.  In turn, that will make any effort to roll back China even more difficult and costly than it would have been before.

 U.S. Policy Response

• In an online event yesterday, Fed Chair Powell said that the resurgence of the coronavirus poses an important risk to the economy in the months ahead, and that it was too soon to say how a potential vaccine would change the outlook.  In Powell’s view, the recent news about successful vaccine trials was “certainly good news, particularly in the medium term, [but] in the near term there are significant challenges and uncertainties.”
• Democratic leaders in Congress have sent a letter to Senate Majority Leader McConnell requesting that negotiations on another coronavirus relief bill restart this week after months of stalemate.  However, McConnell is even more opposed to a large new relief package than Treasury Secretary Mnuchin, who is now largely sidelined from the negotiations because of President Trump’s apparent reelection loss.  Prospects for a major new bill, therefore, remain questionable in the near term.

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

[Posted: 9:30 AM EDT] | PDF

Our Daily Comment today opens with U.S. political and policy news.  We also discuss new challenges for both Chinese bonds and Chinese equities.  In the pandemic arena, we note the continued resurgence in infections in both the U.S. and Europe, which has even prompted Sweden to implement tough lockdown measures.  Finally, we discuss a procedural hiccup in the EU parliament today that presents a hurdle for the bloc’s new coronavirus relief fund and common debt.

U.S. Presidential Election:  In Michigan, where Republicans have filed suit to not count votes around Detroit based on accusations of electoral irregularities, the bipartisan Wayne County Board of Canvassers will meet today to decide whether or not to certify the results.  Since a judge has already ruled that the accusations are unsubstantiated, and that decision has been validated by an appeals court, the board could well certify the results, which were heavily in favor of Vice President Biden.  However, that could change based on late appeals to higher courts, though that wouldn’t necessarily erase all of Biden’s 146,000-vote win in the state.

U.S. Federal Reserve:  Senator Lamar Alexander (R., Tenn.) announced he would vote against President Trump’s nomination of Judy Shelton to the Federal Reserve Board of Governors, citing what he termed her insufficient support for central bank independence.  Alexander is the third Republican senator to say he’ll vote against Shelton, suggesting there is a high chance that she won’t get confirmed.  Separately, Vice Chair Clarida yesterday said Fed policymakers have discussed at least two possible adjustments to their asset-purchase programs in the coming months, including giving more detail around how long those purchases might last or increasing the share of long-term securities they are buying.  In any case, adjustments are more likely if longer-term yields continue to rise as they have over the last couple of weeks.

U.S. Financial Markets:  Tesla (TSLA, 408.09) is surging today following the announcement that it will join the S&P 500 Index on December 21.  Separately, Amazon (AMZN, 3,131.06) said it will launch an online pharmacy, pushing its stock modestly higher but pummeling traditional brick-and-mortar drugstore firms.  Taken together, the developments underscore the global economic transformation that technology firms are likely to keep driving even after the coronavirus pandemic passes.

Chinese Financial Markets:  At least 20 Chinese companies have suspended planned bond sales worth approximately $2.4 billion over the past week as the high-profile defaults of three state-owned enterprises and questions about the solvency of a fourth unnerved investors.  Even today, a Chinese financial publication reported that Beijing-based semiconductor company Tsinghua Unigroup had failed to meet a bond payment even though it is seen to have extremely high support from the national government as a “national champion.”  By undermining investor expectations that the government would back the firms through thick or thin, the defaults are denting confidence in the Chinese bond market, which is the world’s largest.

U.S.-China Financial Markets:  Chinese companies with shares traded in America would be required to use auditors overseen by U.S. regulators or face being kicked off exchanges under a plan being drafted by regulators.  If implemented, the rule would be a further headwind for Chinese equities in the U.S. and would underline the risk that Chinese securities might eventually be pushed out of the U.S. if relations between the countries continue to deteriorate.

U.S.-Iran:  President Trump reportedly asked his advisers during an Oval Office meeting last Thursday about potential military options for striking an Iranian nuclear site after a United Nations agency disclosed that Tehran had expanded its supply of low enriched uranium.  Even though the president was dissuaded from pursuing those options by several senior advisers, who argued that a military action could lead to a broader conflict in the region just as the president is trying to end wars in Afghanistan and Iraq, his interest in the potential strike underscores the fact that major unexpected policy moves could still surface before Inauguration Day.

Argentina:  Negotiations between the leftist government and the IMF over the repayment of a $44 billion loan have been thrown into confusion after senators loyal to Cristina Fernández de Kirchner, the radical vice president and leader of the senate, demanded fresh IMF concessions at odds with the demands of the more moderate leaders of the government.

Peru:  Amid deadly protests against the legislature’s ouster of former President Martin Vizcarra on trumped-up corruption charges, and after the nearly immediate resignation of their hand-picked successor, Congress selected lawmaker Francisco Sagasti as caretaker president.  He will serve until the next presidential election in April.  Since Sagasti’s party had voted against the removal of Vizcarra, the move represents an effort by the legislators to diffuse the opposition to their moves, but there is no assurance they will be successful.  For the moment, at least, Peru remains in acute political instability that is likely to undermine Peruvian equities.

Nagorno-Karabakh:  Armenian President Armen Sarkisian has called early parliamentary elections, saying they are needed to resolve a political crisis sparked by his government’s signing of a truce in the war with Azerbaijan over the breakaway region of Nagorno-Karabakh.

COVID-19:  Official data show confirmed cases have risen to 55,174,990 worldwide, with 1,329,875 deaths.  In the United States, confirmed cases rose to 11,207,088 with 247,229 deaths.  Here is the interactive chart from the Financial Times that allows one to compare cases and deaths among countries, scaled by population.

Virology

• Newly confirmed U.S. infections totaled more than 166,000 yesterday, pushing the seven-day moving average to almost 149,000 and the 14-day average to more than 131,000.  At least 10 states logged record numbers of new infections.  Just as important, the number of people hospitalized with COVID-19 rose to more than 73,000, with approximately 14,300 of those in intensive care units for the first time since April.  Deaths related to the virus totaled 995.
• As new infections also continue to surge in Europe, governments are continuing to tighten economic and social restrictions.  Even Sweden, which gained notoriety in the spring for its exceptionally light restrictions, has now introduced its first mandatory restrictions amid a record surge in new cases, a steady growth in deaths, and a hospitalization rate that is now the highest in Europe.
  • Public gatherings involving more than eight people are now banned, with offenders facing imprisonment.
  • In a speech on Monday, Prime Minister Stefan Lövfen asked the public to avoid all interactions.
• Even though the new restrictions in Europe are milder than in the spring, there is increasing concern that they could still slow the economy and put many firms out of business before vaccines are able to get the pandemic under control.
• Despite the resurgence of infections, doctors who have been treating coronavirus patients from the pandemic’s earliest days in the U.S. say they are now better equipped to face a new rise in hospitalizations, with evidence on drugs that work to combat COVID-19 symptoms, research on treatments, and their own patient experiences over the months.
• In China, the government is cracking down on cold chain goods to prevent any outbreaks of COVID-19 after packaging of frozen Argentine beef, German pork, and Indian cuttlefish tested positive for the virus.

U.S. Policy Response

• An analysis by the Wall Street Journal shows about 300 companies that received as much as half a billion dollars in pandemic-related government loans have filed for bankruptcy.  Many of the companies, which employ a total of about 23,400 workers, say the funds from the Paycheck Protection Program weren’t enough to keep them going as the coronavirus and lack of additional stimulus payments weighed on their businesses.

Foreign Policy Response

• Hungary and Poland blocked a key step toward the EU’s huge new Multiannual Financial Framework (MFF), holding up the budget-plus-recovery-fund designed to turn around the coronavirus-induced economic crisis.  With no evident way out of the stalemate, the vote has thrown the EU back into crisis mode and threatens the launch of the EU’s common bonds backed by the full faith and credit of the member states.

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

[Posted: 9:30 AM EDT] | PDF

Good morning and happy Monday!  U.S. equity futures are higher again this morning on positive vaccine news (see below).  We start our coverage this morning with the new Asian trade agreement.  Political turmoil in Peru is up next.  There is a lot of news surrounding COVID-19 as infections rise across the country; rural areas have been hit especially hard.  China news follows.  We close with a look at grain prices, the election, and odds and ends.  Here are the details:

Trade:  Over the weekend, 15 Asia-Pacific nations signed a large trade deal covering one-third of the world’s population.  Conspicuous in their absence are India and the U.S.  The Regional Comprehensive Economic Partnership (RECP) is a combination of the Association of Southeast Asian Nations (ASEAN) along with Australia, China, Japan, and South Korea.  It took eight years of negotiations to build the pact.  Although it is large, it isn’t all that comprehensive.  It doesn’t include services or agriculture, and it only eliminates 90% of tariffs, unlike the TPP, which gets rid of 100%.  However, it does unify rules of origin, which will help facilitate trade.  The deal is likely to give China a stronger position to dominate regional trade, especially with India’s decision to opt out.  It also highlights the retreat of the U.S. from hegemony; there is little political support for a trade deal in the U.S., but without participation America is ceding ground to China.  At the same time, much of the retreat is visual.  In reality, the RECP isn’t strong enough to be a major tool for Chinese influence.

Peru:  Peru is in the midst of a major constitutional crisis.  Last week, on November 9, the legislature removed President Martin Vizcarra, using a 19^th-century law that allows the legislature to remove a president for “permanent moral incapacity.”  Vizcarra is accused of taking $630,000 in bribes when he was a provincial governor in 2011-14.  There have been no charges filed.  Manuel Merino, the head of Congress, was installed as interim president.  He didn’t last long—he resigned over the weekend as Peru was hit with massive civil unrest.  Peru has had three presidents in the past four years.  It is not obvious how the government will move forward.  Although the turmoil hasn’t affected Peru’s neighbors yet, the region is already dealing with a massive refugee problem caused by Venezuela, and without resolution, it isn’t inconceivable that another one could occur.

COVID-19:  The number of reported cases is 54,495,858 with 1,318,884 fatalities.  In the U.S., there are 11,038,998 confirmed cases with 246,224 deaths.  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: 

• Let us start with the good news—Moderna (MNRA, USD, 89.39) announced its experimental vaccine had an effectiveness rate of 94.5%. This news triggered a rally in equities.  Both Moderna and Pfizer (PFE, USD, 38.62)/BioNTech’s vaccines have shown high effectiveness.  These vaccines use the novel mRNA method that has never been used before (here’s a primer); because mRNA is fragile and breaks down quickly in normal temperatures, distribution of this vaccine will require a super-cold supply chain that may mean this method will be the first, but probably not the last, in the vaccine saga.  Nevertheless, progress is really good news.
• Another bit of good news: in a weekend book review of Nicholas Christakis’s new book on the pandemic, near the end of the review, there is an analysis of how COVID-19 may evolve. Around 1890, there was a pandemic called the Russian flu.  Although history has treated it as an influenza, new research suggests it was likely a coronavirus that moved from cows to humans.  Influenza usually kills, as the “tails” of age, the old and the young.  However, COVID-19 is most deadly among the elderly, and so was the Russian flu.  There is a coronavirus called OC43; it accounts for 30% of all common colds.  There is some speculation that the Russian flu was, in fact, OC43, which started as a deadly coronavirus that mutated into a much less deadly form.  Although we are clearly not through this current pandemic yet, there is hope, even if an effective vaccine isn’t found, that COVID-19 may become a lesser issue over time.
• Now the bad news. Infection rates are rising rapidly, and this time around it’s hitting much of the country.  Unlike the event in the spring, rural areas, which have fewer resources to cope, are facing the brunt of infections.  Rural nursing homes are especially vulnerable.  States are issuing new orders for partial lockdowns and other measures.
• VP Biden’s campaign indicated that he doesn’t plan to issue national lockdown orders. The increase in infection rates will likely hurt Q4 growth.  Even after the pandemic ends, it looks like it will leave permanent changes in its wake.  At least some degree of work from home will stay in place, and that will undermine public transit systems.  It has also fostered digital commerce, which will probably continue as well.
• There are reports that North Korea and Russia are trying to hack COVID-19 research firms.
• Although PM Johnson did recover from an early bout of COVID-19, he is self-quarantining due to a recent exposure.

China:  China’s economy continues to outperform and will likely finish the year on an uptrend.  In a rather surprising development, vulture funds are buying up distressed debt from China’s SOEs on the assumption that state governments won’t allow the firms to default completely.  This is likely a heroic assumption.

U.S. agriculture:  Although the U.S. grain crops were large, prices have continued to rise.  Some of the strength is tied to Chinese imports.  China is buying crops as part of the Phase I deal with the U.S., and it is rebuilding its hog herd after the African Swine Fever led to mass culling.  At the same time, Americans stuck at home have been on a baking binge, which is boosting wheat demand.  Also, we are in a period of the year where South American stockpiles are dwindling, and the U.S. harvest isn’t quite complete.  In addition, weather in South America has been dry, and Argentina is considering export tariffs, leading farmers there to store rather than sell their grain.

The election:  Although this election won’t be resolved until early December at the earliest (December 8 is the key date—that is the “safe harbor” day that certifies electors to the Electoral College), we are watching to see who VP Biden is leaning toward for key spots.  We have been paying close attention to Jared Bernstein, who was an economic advisor to Biden when he was VP in the Obama administration.  He is apparently under consideration for leading the National Economic Council.  He has an op-ed in the WP that discusses how low interest rates make a high federal debt easier to manage.  Although he hasn’t been tied officially to MMT, policies from that theory would fit this position.  Bernstein has called for an end to the dollar’s reserve status, and we would view his official appointment as a potential signal of a bearish dollar policy from a Biden administration.

Odds and ends:  Brexit talks continue, and the deadline of year’s end is looming.  We expect a deal to be struck, but it may not be close to comprehensive.  In other news:

• Bulgaria is threatening to block North Macedonia’s entry into the EU. As is the case in this part of Europe, ethnic populations spill over state boundaries.  North Macedonia claims minorities in Bulgaria, which is making Sofia uncomfortable.
• In the Moldova runoff election, Maia Sandu, who is friendly to the EU, appears to be the winner.

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

[Posted: 9:30 AM EDT] | PDF

Good morning and happy Friday the 13^th!  U.S. equity futures are rebounding after a drop yesterday.  We lead off with the Fed, with a recant of yesterday’s thoughts about the two open governor positions; we also note the comments from Chair Powell in a forum of central bank leaders.  China news is next, including new restrictions on Chinese investment.  Pandemic news follows, and we close with Brexit news.  As we promised yesterday, the Weekly Energy Update is available today after being delayed by the Veterans Day holiday.  Being Friday, there is a new Asset Allocation Weekly, along with the associated podcast and chart book.  Starting in January, in a bid to shorten this report, we will no longer publish the AAW at the bottom of the Daily.  It will be available only as a stand-alone report but will be linked within the Daily Comment.  Here are the details:

The Federal Reserve:  Let’s start with a lesson we apparently forgot yesterday.

“It’s tough to make predictions, especially about the future.”

–Yogi Berra, although attributed to many others

Yesterday, we noted that President Trump would probably not fill the remaining two governor positions.  We clearly spoke too soon.  According to Senator Cornyn (R-TX), the two candidates could come up for a Senate-wide vote next week.  Chris Waller is non-controversial; he is a Fed system economist at the St. Louis FRB and expected to be a dovish voter.  Judy Shelton is another matter.  She has supported the gold standard and suggested that Fed independence was unnecessary.[1]  Her previous comments would have suggested she would be an extreme hawk, but she seemed to reverse that stance when she was nominated.  We view her as a political leaning governor; she would support policy accommodation under a GOP White House but propose tightening with a Democratic White House.  We could be wrong—after all, we were yesterday.  However, that is where her pervious comments seem to lean.  So, will she get the nod?  Two GOP senators, Romney (R-UT) and Collins (R-ME) have indicated they will vote against her.  If all the other GOP members approve, she will pass 51-49.  It behooves the Senate leadership to move quickly.  Mark Kelly will be sworn in on Nov. 30 for the Arizona seat, and he would likely vote against Shelton.  With two GOP senators already opposing Shelton, waiting for Kelly could put her confirmation at a tie, which could be broken by VP Pence.  However, we noted in September, Senator Thune (R-SD) suggested Shelton didn’t have enough votes to be confirmed.  We suspect something has changed, because Majority Leader McConnell rarely brings up a vote that he isn’t sure will prevail.

Will Shelton matter?  Yes, insofar as all governors matter.  They make speeches and vote on every policy decision.  At the same time, Fed Chairs have had to deal with difficult governors in the past and managed to conduct policy.  Dissents have become less common over time, but they used to occur often.  Henry Wallich holds the record for most dissents, at 27, when he was governor from 1974 to 1986.  If Shelton dissents at each meeting, it isn’t likely to change the path of policy.  And once financial markets realize that she isn’t swaying policy, her comments won’t matter all that much.  If she gets confirmed, look for mainstream economists to react negatively, but for markets, it’s probably not a major issue.  It’s also notable that she is replacing a current term, which will end in 2024.  Thus, her impact may be short.  At the same time, as we have noted before, the Fed releases full transcripts of each meeting with a five-year delay.  Although going through the transcripts requires a lot of reading (each meeting is around 200 to 250 pages, and there are at least eight per year), they give a clear picture of the personal conflicts that are part of any committee.  If Shelton is on the committee, it should make for interesting reading in 2026…something to look forward to!

• Yesterday, the heads of the ECB, BOE and the Fed were on a panel at the ECB’s Forum on Central Banking. The consensus among the bankers is that the medium-term outlook is favorable, but the next three months could be a problem.  The resurgence of the virus and the lack of fiscal action will slow growth and affect those with the fewest resources to respond.  Chair Powell also noted that the pandemic will have longer-term effects that are still not clear.
• In the U.S., emergency aid programs tied to the pandemic expire at year’s end. If allowed to expire, there will likely be a negative impact on the economy.

China:  Investment bans and TikTok gets a reprieve.

• President Trump issued an executive order yesterday banning U.S. investors from holding shares with ties to the Chinese military. Chinese telecom firms plunged on the news.  There are 20 companies on the initial list; several other state owned firms have been added.  This action by the White House is consistent with other measures designed to restrict China’s access to U.S. capital markets.  We would expect a Biden administration to keep the ban in place.  Investors have a year to remove the firms from their portfolios.  As expected, Beijing took a dim view of the order.
• As the deadline loomed, the Commerce Department gave TikTok a reprieve, delaying implementation of the order to remove the firm’s content from the U.S. internet. The company has been granted a temporary injunction against the ban, so the Commerce Department decision likely reflected the injunction.  So, for now, TikTok remains available.
• Next week’s WGR will discuss the situation with Ant Group. We note that financial regulators appear to be cracking down on excessive deb  Although China’s debt situation has been on watch for years, authorities have tended to “extend and pretend,” allowing large firms, often state owned, to continue operations.  It is not obvious why regulatory concern has increased, but we have noticed a drive by Beijing to emphasize stability.  It may be that there are fears of financial stress that could increase unrest.
• Beijing has congratulated VP Biden.

 COVID-19:  The number of reported cases is 52,864,762 with 1,295,403 fatalities.  In the U.S., there are 10,557,451 confirmed cases with 242,436 deaths.  For the first time, new cases in the U.S. rose over 150,000 yesterday.  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.  The R_t data looks much like last week.  Every state and territory, with the exception of Mississippi, has a reading above 1.0, meaning that infections are increasing.  Maine had the worst reading.

Virology: 

• As the virus surges around the world, governments are reluctantly tightening social measures.
  • In the U.S., several states have issued various lockdown restrictions, with Illinois perhaps being the most stringent. Governors and mayors are trying to avoid full lockdowns and widespread stay-at-home orders due to the economic fallout.  Large urban school districts are contemplating the return to full on-line classes.
  • In Europe, France has extended a full lockdown until the end of November. Meanwhile, the mink cull in Denmark has turned into a political disaster.
• Testing laboratories are warning that the rise in testing could lead to longer delays in getting results. Delays were a problem earlier this year; in general, a delay of five days renders testing ineffective.
• On the economic front, as mobility declines, grocers are bringing back purchase limits on some goods, primarily paper goods and disinfectants. As the exodus from urban centers increase, Manhattan landlords are making concessions to renters.  In recent years, there has been a trend among builders to erect multi-generational homes.  That trend has accelerated with the pandemic, as families are increasingly reluctant to put older relatives in nursing facilities, which have become vulnerable to COVID-19.

Brexit:  Earlier this week, Lee Cain resigned from the Johnson government.  Cain was director of communications and was rumored to become the next chief of staff.  Dominic Cummings was a key advisor to PM Johnson; he has announced his exit as well.  To a great extent, these resignations are part of the internal machinations of the PM’s staff, and it is impossible to separate policy from personality.  The bottom line is that Cain and Cummings were hard line Brexit supporters.  Their departure would give Johnson room to compromise with the EU to get a deal done.  Although there is widespread rejection of this theory in comments from Johnson’s staff, we suspect that there is something to it.  However, that doesn’t mean removing the hard Brexit group is the only factor.  There is no doubt that personality clashes played a role.  But, from a policy and market perspective, the personality issues are secondary.  The exit of Cain and Cummings should be bullish for the GBP.

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[1] Actually, if the goal is reflation, Fed independence is a hinderance.  However, it is hard to square support for the gold standard and reflation.

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

[Posted: 9:30 AM EDT] | PDF

Good morning!  U.S. equity futures are a bit lower this morning.  Tropical Storm Eta is hitting Jacksonville, FL, today and is on its way up the Southern Atlantic Seaboard this weekend.  Although TS Theta won’t get anywhere near the U.S., it does mark the most active hurricane season since the U.S. began keeping records.  China news leads off our coverage this morning, with the pandemic update to follow. We look at real estate news, the U.K. and Brexit, the Fed, and close with market odds and ends.  Although we usually publish the Weekly Energy Update today, it is delayed due to the Veterans Day holiday.  It will be published tomorrow. Here are the details:

China:  

• Beijing decided to oust four pro-democracy legislators in Hong Kong on national security grounds, prompting the resignation of most of the remaining pro-democracy legislators. The Xi regime has been steadily moving to quell dissent in the former British colony, and this most recent move is additional evidence of this trend.  The decision to make this move and the subsequent resignations will further centralize power in Hong Kong’s executive.  Although it could be argued that China may be taking advantage of the distraction in Washington, in reality, Beijing has dominance over Hong Kong, and it is unlikely that any U.S. administration would be willing to make much of a sacrifice over the region.
• Remember TikTok? Today is the last day before a U.S. ban of the service unless the courts intervene.  The Committee on Foreign Investment in the U.S. (CIFUS) set today as the deadline for ByteDance to divest of its U.S. entity.  CIFUS can extend the deadline by 30 days but has not taken any action yet.  The company has asked the courts to intervene.  Given the level of distraction in the U.S., it is quite possible that the app closes today.
• November 11^th is Veterans Day in the U.S. and Armistice Day in Europe. In China, it’s “singles day,” one of the largest shopping days of the year.  Alibaba (BABA, USD 265.65) reported its sales hit $74 billion over the past 11 days.  You wouldn’t see these robust sales by looking at the stock chart; fears of regulation tied to the Ant Group’s IPO debacle have been a bearish event for several Chinese tech giants.

(Source:  Barchart.com)

• China Construction Bank Corp (CICHF, USD, 0.74) is issuing $3.0 billion of bonds that can be purchased with USD or bitcoin. The bond appears to be only available to foreign buyers.  Although bonds can be bought with bitcoin, it appears they pay in dollars.  Given the strength of bitcoin, we doubt many will purchase with the cryptocurrency, but the fact that it is being facilitated bears watching.

COVID-19:  The number of reported cases is 52,256,150 with 1,286,543 deaths.  In the U.S., there are 10,404,354 confirmed cases with 241,808 deaths.  New cases in the U.S. hit 144,000 yesterday, a new record.  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.  The Axios weekly map shows that infections are rising across the country.

Virology: 

• The surge in cases is starting to strain hospital systems. Compared to the spring, the virus has spread further into rural areas, which have fewer resources to cope with the rise.  In addition, some hospitals are reporting a lack of staffing to handle the rise in cases.
• Sweden, which avoided the widespread lockdowns in the spring, is having a very difficult winter with the virus.
• Eli Lilly’s (LLY, 145.89) bamlanivimab, a monoclonal antibody, has become the first to receive FDA approval for emergency use.  The antibody will be used on patients deemed high risk due to their preexisting conditions.  However, it is not allowed for use on those who are already severely ill.
• The government is starting to plan for the distribution of a vaccine.  As we anticipated, health care workers are expected to be first in line, with nursing home residents probably high in the queue as well.  By the end of Q1, wider distribution is likely.
• Fauci predicts that Moderna (MRNA, USD, 82.44) will show strongly positive results with its vaccine.
• The mink cull in Denmark has been called off. Parliament would not pass legislation authorizing the action.  It is still unclear if the mutation of COVID-19, which apparently moved from humans to minks and back to humans, is any more deadly than that which is currently circulating.  The worry is that this mutation may reduce the effectiveness of current vaccines.
• Current COVID-19 testing relies on antibodies. There have been concerns about relying on these tests because antibodies tend to diminish over time.  This fact has led to speculation that immunity may not persist.  However, antibodies are not the body’s only defense.  T-cells also combat infection, and their presence could mean that immunity lasts beyond the time the antibodies fade.  New tests are being developed to determine whether T-cells are present against COVID-19.  These should give a better picture of a person’s immunity.

Real estate:  Parts of the commercial real estate market have been under pressure for some time, while other sectors have prospered.  Storage and warehouses have done rather well, while retail malls have been especially problematic.  The pandemic has accentuated these trends.  We are now starting to see a wave of mall bankruptcies.

• The exodus from urban centers has triggered a boost in housing activity. It is also leading more affluent households to trade up for more space, increasing demand and prices for more expensive homes.  This movement away from urban centers will further solidify the work from home trend accelerated by the pandemic.
• As Americans flee the cities, foreigners are taking a look. Major city realtors report a rise in interest from foreign buyers for both residences and commercial property in cities.

Brexit and the U.K.:  Although we expect a Brexit deal, it should be noted that even with an agreement, a good bit of “strategic ambiguity” will be part of any pact.  In other words, expect both sides to say the same thing but mean something different, leading to persistent conflict.

• Lee Cain, the communications director for PM Johnson, has resigned after there were reports he was tapped to become the new chief of staff. Cain is considered a hard Brexit supporter, and when reports emerged that he was going to be promoted, it caused a row among Johnson’s ministers.  Rather than risk a mass resignation event, the offer to Cain was apparently rescinded, and he has left the government.  This situation is further evidence of the divisions within Johnson’s administration and the difficulty he has had in managing them.

The Federal Reserve:  One part of unfinished business for the Trump administration has been filling Fed governor positions.  The FOMC has seven governors and 12 district presidents.  Voting members are the seven governors, the president of the NY FRB, and a rotating roster of four of the district bank presidents.  During Trump’s term, he filled three governor positions, Randall Qualls, Michelle Bowman, and Richard Clarida.  Clarida was named vice chairman and Governor Powell was elevated to Fed chair.  However, he was never able to fill the last two governor spots.  Chris Waller of the St. Louis FRB and Judy Shelton were nominated; although Waller was a conventional pick, Shelton was quite controversial and seemed to get little support from the Senate.  We suspect these spots won’t be filled during the lame-duck session.  Thus, if Biden does get the presidency, he will be able to fill two governor spots, and Clarida and Powell’s terms end in 2022.  We would not be surprised to see Waller get the nod, but Shelton would likely be quietly removed from consideration.  Waller would be considered rather dovish.  We would not be surprised to see either Neel Kashkari, president of the Minneapolis FRB, or Jim Bullard, president of the St. Louis FRB, fill these governor positions.  Given Bullard’s dovishness, he could be a candidate to replace Powell, although Governor Brainard, especially if she doesn’t get the nod for treasury secretary, would also be a favored candidate.  In any case, we expect hawks to become a rare species on the FOMC in the coming years, but filling these open governor positions with doves is critical to policy accommodation.

Market odds and ends:  Here are a couple of items we noticed.

• Greek sovereign yields have turned negative. Although the government did sell three-month notes at negative rates last month, two- and three-year notes already in the market have fallen below zero.
• U.S. bank deposit rates are falling fast, suggesting that, at some point, these idle balances will start to look for a higher income home. To receive higher yields, investors will be forced to take on more risk.

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

[Posted: 9:30 AM EDT] | PDF

Our Daily Comment today opens with the latest news on the U.S. presidential transition and yesterday’s Supreme Court hearings on the Affordable Care Act.  We follow that with some unfriendly market news out of China and various other international developments, and we end with our usual update on coronavirus news.  Finally, as a reminder, the bond market is closed today for Veteran’s Day.

U.S. Elections:  The General Services Administration still hasn’t issued its certification on who has won the presidential election, so Vice President Biden and his team still haven’t been able to access the federal office space, funding, and clearances necessary to fully plan to take over the government in January.  However, Biden and his team continue to work on organizational and policy plans to the extent possible and say they have no intention of starting legal proceedings to force the GSA to make its certification.

U.S. Healthcare Sector:  In yesterday’s Supreme Court hearing on the constitutionality of the Affordable Care Act, several conservative justices questioned whether the entire law really must fall because Congress eliminated the penalty for not carrying health insurance in 2017.  The questioning suggested the law may survive its latest test in the high court, which could potentially provide some stability to healthcare firms.

China-Hong Kong:  Most of the pro-democracy lawmakers in Hong Kong’s municipal legislature have resigned to protest the government’s ouster of four legislators on national security grounds.  The development illustrates how Beijing is increasingly taking control of the city and abandoning its traditional “one country, two systems” policy.  In turn, that is likely to continue to sour China’s relations with the major democracies and to raise the risk of a rupture that could weigh on the Chinese economy and Chinese assets.

China:  The vice president of the China Banking and Insurance Regulatory Commission warned that technological advances in the financial industry have risked creating monopolies.  The statement, coming a day after Beijing unveiled new antitrust rules for the nation’s largest internet groups, has added to concerns about a sharp increase in regulation and government control over business firms in China.  The statement, therefore, has contributed to a second down day for the country’s technology stocks.

Nagorno-Karabakh:  Following yesterday’s Russia-brokered peace deal to stop the fighting over the enclave of Nagorno-Karabakh, violent protests broke out in Armenia over the government’s perceived capitulation to Azerbaijan.  Reports indicate protestors even ransacked President Nikol Pashinyan’s official residence.  A key risk is that the protests could force the Armenian government to renew fighting, even though it was seriously losing ground to Azerbaijan.  In any case, the deal’s provision for Russian peacekeepers will put Russian troops in Azerbaijan, just as they are already based in Armenia.  In addition, the deal has strengthened Turkish President Erdogan’s hand in the region because his military assistance was instrumental in giving the Azeris the edge in the fighting.

Turkey:  After this week’s major shakeup of the government’s economic policy team, the main bank regulator said it would reduce restrictions on currency derivatives transactions between local banks and foreign investors in which the lira is traded for foreign currencies such as the dollar, euro, and yen.  The announcement, like a similar one in September, is aimed at unfreezing the market for lira.  However, a more important move for the market would be for the central bank to hike interest rates in order to support the plunging lira.

Peru:  One day after former President Martín Vizcarra was ousted on trumped-up corruption charges (by a bevy of Congressmen the Vizcarra administration had been investigating for real corruption), the little known head of Congress, Manuel Merino, was sworn in as the country’s new president.  By underscoring Peru’s challenges with corruption, the whole affair is likely to undermine the country’s investment attractiveness going forward.

COVID-19:  Official data show confirmed cases have risen to 51,599,927 worldwide, with 1,274,661 deaths.  In the United States, confirmed cases rose to 10,260,282, with 239,695 deaths.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• Newly confirmed U.S infections totaled more than 136,000 yesterday, setting a new single-day record.  Hospitalizations related to the virus rose to almost 62,000, which was also a record.  The number in intensive care units rose to almost 12,000, but that was still a bit below the level on May 7.  Finally, there were more than 1,400 virus-related deaths.
• In a sign of surging optimism about the vaccine being developed by Pfizer (PFE, 38.68) and BioNTECH (BNTX, 112.76), the EU has agreed to buy up to 300 million doses of the compound.  Pfizer said deliveries are expected to begin by the end of the year, subject to the vaccine receiving regulatory approval from the European Medicines Agency.  As a side note, the EU’s purchase is part of an evolving effort for Brussels to take the leading role in healthcare throughout the bloc, where individual countries currently manage their own health policy and epidemic preparedness.
• Not to be outdone by the U.S. and the 90% effectiveness rate reported this week for the Pfizer/BioNTECH vaccine, Russia said its fast-tracked coronavirus shot, Sputnik V, showed an effectiveness rate of 92% in preliminary trials.  The Russian government may be banking on such positive results to dispel Western skepticism over its ability to make a vaccine quickly, but the suspicious announcement so soon after the Pfizer news seems just as likely to increase that skepticism.
• As a reminder of the challenges ahead, even if safe and effective vaccines are found, Russia’s plan to roll out its coronavirus vaccine to the wider population is progressing at a pace slower than expected as policymakers encounter challenges in ramping up production.
  • Since mass production of Sputnik V began in September, attempts to scale it up have proved difficult; scientists have struggled with fine-tuning the technical processes and have encountered issues with the equipment.
  • Officials have therefore dialed back their earlier forecasts that up to 30 million doses of Sputnik V could be produced this year. They now expect between two million and 10 million doses by the end of the year, and a large-scale vaccination campaign has been pushed out from October to late November or early December.

 Economic Impacts

• Elke König, the head of the EU agency tasked with winding down failed lenders, warned that European banks need to prepare their balance sheets for massive pandemic-induced, non-performing loans hitting them in the new year.
• The EU’s commissioner for economic policy, Paolo Gentiloni, said the severe recession caused by the pandemic may require the EU to keep its normal budget deficit rules suspended for another year in order to encourage member countries to keep their fiscal support programs in place as long as needed.  According to Gentiloni, a final decision on suspending the rules through 2022 will be made in the coming months.
• In OPEC’s latest monthly report, the organization said lockdown measures in Europe and weaker consumption in the Americas will reduce global oil demand in 2020 by more than previously expected.  It now forecasts global demand will drop this year by 300,000 barrels a day to 9.8 million barrels a day, for a 10% decline from last year’s levels. The cartel also softened its forecast rebound in demand for 2021 by 300,000 barrels a day.  Coupled with recovering output in some non-OPEC countries, the report would point toward weaker oil prices in the coming months, despite the sharp rebound in prices seen this week in response to the positive vaccine news.

 U.S. Policy Response

• Reports point to growing disagreement in Congress over whether or not to extend the Federal Reserve’s emergency lending programs, which have helped stabilize the financial markets during the pandemic.  Failure to renew the programs and allowing them to expire at the end of the year could dent near-term economic expectations and undermine market confidence.

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

[Posted: 9:30 AM EDT] | PDF

Our Daily Comment today opens with the latest developments in the post-election political and legal maneuvering.  Naturally, we follow that with a discussion of coronavirus news and what to expect after yesterday’s blockbuster announcement regarding the vaccine development by Pfizer (PFE, 39.20).  We end with various other international and market news.

U.S. Elections:  President Trump continues to pursue legal remedies to his apparent re-election loss.  Although the legal challenges still seem unlikely to change the result, they continue to slow the timing of certifying the results and complicate the prospects for a smooth transition of power.

• The Trump campaign and its allies have unveiled a new tactic to contest election vote counts.  They are suing to stop state officials from finalizing results due to fraud allegations in Michigan and the limits imposed on poll observers in Pennsylvania.  However, legal analysts say judges would probably be reluctant to take the rare step of blocking final vote counts without seeing substantial evidence of fraud or irregularities widespread enough to change the election.
• Separately, Attorney General Barr has authorized federal prosecutors to investigate possible instances of electoral fraud in the presidential poll.  The move was a break from past practices that delayed such probes until after an election was settled, so it wouldn’t appear the Justice Department was trying to tip the scale in favor of one candidate.  However, the order did limit prosecutors to investigating only “clear and apparently credible allegations of irregularities that, if true, could potentially impact the outcome of a federal election in an individual state.”
• Several foreign leaders seen as ideologically close to President Trump continue to withhold offering their congratulations to Vice President Biden.  Russian President Putin’s office, for example, says he will not offer congratulations to Biden until the results are “officially” announced, even though he congratulated President Trump in 2016 shortly after news media called that election for Trump.  Indeed, Russian state media voiced support for Trump’s assertions that the vote was marred with irregularities.  Some Russian politicians predict that a Biden presidency would further sour relations between Moscow and Washington.

COVID-19:  Official data show confirmed cases have risen to 50,913,451 worldwide, with 1,263,089 deaths.  In the United States, confirmed cases rose to 10,110,552, with 238,251 deaths.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• New confirmed U.S infections totaled almost 120,000 yesterday, while virus-related hospitalizations approached 60,000 and deaths topped 600.  The ominous figure is that among those hospitalized, over 11,000 are in intensive care units, which brings the total number of ICU patients to the highest since early May.
  • Mentioning this isn’t meant to take anything away from yesterday’s positive news about vaccine development and the rip-roaring impact it had on the financial markets.  However, the current data do serve as a reminder that there are still many challenges to overcome before things are back to something approaching normal.  For example, it’s important to remember that producing, distributing, and administering vaccines will still be a big challenge going forward.
  • In the meantime, economic lockdowns of one type or another remain a risk, even if it should now be easier to think of any new restrictions as probably being relatively short-term.  The good vaccine prospects also may take some wind out of the sails for those working toward a new fiscal relief package in Congress.  And finally, yesterday’s upswing (which was especially strong for travel and leisure stocks, real estate firms, and distressed debt) was simply so strong that it wouldn’t be surprising to see some profit taking today or in the near term, even if longer-term prospects have brightened.
• Despite the good news on the vaccine from Pfizer, some vaccines under development continue to hit roadblocks.  Brazil has suspended final-stage trials of a Chinese vaccine after adverse reactions to the shot raised safety concerns.  The suspension deals a blow to Beijing’s effort to use medical diplomacy in the wake of the pandemic.
• Housing and Urban Development Secretary Ben Carson tested positive for COVID-19 yesterday morning, making him the latest member of President Trump’s orbit to contract the virus after White House Chief of Staff Mark Meadows tested positive last week.
• While a new wave of infections is sweeping around Europe and the U.S., this wave is proving less deadly than the initial wave last spring.  In the U.K., for example, the number of “excess deaths,” or deaths significantly higher than average, is about one-third smaller than at the U.K.’s peak last spring.
• After Australia went three straight days with no local transmissions, Prime Minister Morrison said his government is considering allowing travel to the country from some Asian countries, including parts of China, in a bid to revive Australia’s tourism industry.

 Economic Impacts

• As mentioned above, it’s important to remember there will still be many steps to get the virus under control.  In a regular report on financial stability released yesterday, the Federal Reserve warned that uncertainty over the course of the virus and its economic and financial consequences remains unusually high.  According to the Fed, a major risk is that the pandemic could persist for longer than anticipated—especially if there are extended delays in the production or distribution of a successful vaccine.
• The European Central Bank also issued a report warning of continued risks.  According to its research, the ECB said fully one in seven Spanish workers are in non-financial businesses at risk of collapse from the pandemic, even after taking into account the use of subsidies to keep people in work.  That compares with about 8% of employees in Germany and France and 10% in Italy who are in a similar situation.
• Since yesterday’s dramatic market action included a rise in longer-term interest rates and a steepening in the yield curve, U.S. banks are on a sounder footing today than before.

 U.S. Policy Response

• Advisors to Vice President Biden said he is planning to move quickly to rebuild ties with longstanding U.S. allies in order to coordinate international efforts to deal with the pandemic and its consequences.  Early steps will include rejoining and trying to reform the World Health Organization while using international venues such as the Group of Seven nations and Group of 20 major economies to focus on the coronavirus pandemic and its consequences, including a potential debt crisis in emerging markets and food insecurity in impoverished nations.

United Kingdom:  Treasury chief Rishi Sunak yesterday outlined a review of finance rules, including possible changes to make it easier for companies to raise money in London.  This is aimed at keeping the country’s vast financial sector competitive with New York after Brexit.  Given the financial services industry’s prevalence in the British economy and their high representation in the British stock market, maintaining global competitiveness in this sector could be critical in maintaining the U.K.’s attractiveness as an investment destination.

EU-U.S. Technology Firms:  Reports indicate the EU will announce formal antitrust charges against Amazon (AMZN, 3,143.74) today regarding how it uses data about merchants on its platform.  The case focuses on Amazon’s dual role as both a marketplace for third-party vendors and a competitor selling its own goods.  The charges turn on concerns that Amazon may be abusing its role by using the data it gathers on merchants to compete against them.  These charges are also part of a long line of EU legal challenges to U.S. technology firms and their business models.  Coupled with yesterday’s positive news about coronavirus vaccines and the possibility of the global economy getting “back to something like normal,” the continuing EU regulatory attacks suggest tech firms will face increased headwinds in the near term.

Nagorno-Karabakh:  Azeri forces fighting Armenian troops over control of Nagorno-Karabakh accidentally shot down a Russian military helicopter, killing two crew members.  The incident apparently helped prompt the Kremlin to intensify its effort to resolve the conflict, and reports today say Armenia and Azerbaijan have signed a ceasefire deal that will deploy Russian peacekeepers in the territory.  The Russian troops are reportedly already being deployed.  The truce, which follows the capture of a strategically decisive city by Azeri forces, represents a major military victory for Baku, cementing its large territorial gains and raising questions about the future of the Armenia-controlled enclave.

Japan:  The Bank of Japan said it will exempt regional banks from negative interest rates if they agree to merge or cut costs.  Regional banks with approved restructuring plans will be able to earn a positive interest rate of 0.1% on their deposits at the BoJ, instead of minus 0.1%. That is an incentive that could be worth billions of yen, and it’s a highly unusual use of monetary policy to reshape the financial sector.

Peru:  The country’s Congress has ousted President Martín Vizcarra over what appears to be trumped-up charges of corruption and incompetence related to the coronavirus pandemic.

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

[Posted: 9:30 AM EDT] | PDF

Good morning and Happy Monday!  Global equity markets are on a tear this morning; we are seeing a spike in interest rates, a drop in gold prices, and a surge in oil prices.  All this looks like a trade based on an improving business cycle.  There appear to be two factors behind the optimism, the election outcome, and good news on a vaccine.  Those two items lead off our coverage.  Brexit news comes next, followed by China news.  There was a shakeup in Turkey over the weekend, and the war in the Caucasus continues.  There is rising noise about U.S. negative interest rates.  We close with odds and ends. Here are the details:

Election update:  Over the weekend, the major news media called the election for Biden.  Although the Trump campaign is continuing its legal efforts to reverse Biden’s current lead, the likelihood of success is low.  In our opinion, the bigger problem for the president is that there doesn’t appear to be broad enough support to turn the apparent outcome.  Large company CEOs have no interest in a disputed election.  Although business prospered under Trump’s government, there was always an edge of uncertainty.  A company could find itself under fire in a tweet at any time.  We doubt Biden will be as regulatory friendly as Trump (a bigger deal for smaller companies), but he will also be more predictable.  Perhaps the biggest reason that the president won’t prevail in his legal quest is because his party has moved on.  Even if Trump won a second term, he would have been a lame duck on Inauguration Day.  This is a hard lesson all second-term presidents face and virtually none expect.  In reality, Senator McConnell is trying to make sure he stays majority leader, and if he is successful in that goal (prediction markets suggest he will be), he will be focusing on 2022.  A messy legal fight could complicate those goals.  In addition, GOP candidates for 2024 are already starting to think about their campaigns.  Donald Trump will remain politically powerful; running a “scorched earth” legal campaign probably doesn’t help his future role.  There is still a chance for political turmoil in the Electoral College.  In 1876, we saw a few states send multiple slates of electors.  Although this is a possibility this time around, we suspect the support for this tactic will wane.

The reaction in financial markets is probably less about who won and more about having a winner.  There was elevated fear going into the election, and the fact that we are not seeing a hung election and widespread civil unrest is triggering a relief rally.  As we will show in Friday’s Asset Allocation Weekly, although equity markets themselves were not exhibiting clear evidence of fear, the derivatives markets had ample evidence of hedging behavior.  A big reason behind the rally is the lifting of these hedges.  The additional fact that we will probably have a divided government means fears of a leftist swing in policy is much less likely.

Finally, investors should be aware that populism isn’t dead by any means.  The next time around, we are more likely to see a populist figure from the right that will borrow ideas from the left, repackage them in a form that has broader appeal and create a new coalition, perhaps something that looks like Nader’s proposal.[1]  In other words, the populist mantle will be captured by a less divisive and more effective political figure with a more consistent political agenda.  Such an outcome will not be friendly for financial markets or capital.

COVID-19:  The number of reported cases is 50,517,420 with 1,257,922 deaths.  In the U.S., there are 9,973,563 confirmed cases with 237,584 deaths.  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: 

• This morning’s big news is that the Pfizer (PFE, USD 36.40)/BioNTech vaccine data indicate a vaccine protection rate of 90%, which was better than expected. The numbers are still small; in 94 test subjects, the vaccine proved to be 90% effective.  This vaccine used the novel mRNA method, and if it proves effective, it could mean a much faster production of vaccines in the future.
  • There is more good news—so far, no serious safety issues have developed.
  • It is possible the vaccine could begin distribution by month’s end, although we expect the first doses will go to front-line medical workers.
  • On the downside, we don’t know if there will be long-term side effects or how long the vaccine will be effective. In terms of the first issue, this bears watching because of the new mRNA methodology.  In addition, it is possible this coronavirus will mutate enough to require annual shots similar to influenza.  But, if the vaccine works, it would suggest that we are getting closer to ending this pandemic.
• Meanwhile, as we face the onset of winter. Europe is facing soaring infection rates.
• The U.S. is seeing higher cases too; states and cities are trying to cope with higher infection rates while avoiding widespread lockdowns.
• Finally, we continue to watch this situation with mutations, especially the recent reports from Denmark that mink farms became a reservoir for a mutated form of COVID-19.

Brexit:  As year’s end approaches, negotiators continue to work toward a deal to avoid a hard break between the U.K. and the EU.  One sign of hope is that PM Johnson and EC President von der Leyen have kept lines of communication open.  In all likelihood, it will be at this level that a deal will be struck.  EU chief negotiator Barnier is going to London for talks this week.

China:  Chinese officials have not had any major public reaction to the U.S. election news.  We do expect that the Trump tariff policy will be scaled back.  Although the deficit with China did narrow under Trump, the impact of tariffs was partially offset by CNY weakness.  We are seeing the CNY strengthen.  A Biden presidency will probably be less focused on tariffs and more on multilateral policy.  Meanwhile, China’s trade surplus is expanding as the world economy slowly recovers.

Turkey:  Over the weekend, President Erdogan fired Murat Uysal, the head of Turkey’s central bank.  Erdogan’s son-in-law, Berat Albayrak, resigned from the finance and economic ministries.  The TRY has been hammered in financial markets over the past 15 months, as the central bank has refused to raise rates to prop up the currency.  The reshuffle is thought to be in response to the currency crisis, but in fairness to Uysal, he was simply following Erdogan’s preferred policies.  The new central bank governor, Naci Agbal, was likely brought in to raise interest rates; this has lifted the TRY this morning.  Turkey’s financial situation is dire.  Foreign reserves are falling rapidly, and Ankara may be forced to ask for an IMF bailout.

Caucasus:  Azerbaijan claims it has captured a major city in the Nagorno-Karabakh region.  According to unconfirmed reports, Shusha has fallen to Azerbaijan forces.  Armenia denies that the city has fallen.  Capturing Shusha would give Azerbaijan the high ground overlooking the regional capital city of Stepanakert.

 Negative interest rates:  Although today’s market action belies such fears, we are seeing analysts suggest that the U.S. could see negative long-term interest rates.  There has always been a subset of the analyst community that has thought negative rates were possible; we are now seeing new members of the chorus.  Although we are not in that camp, we will be watching to see where the Fed’s toleration line is for long-duration Treasuries.  There has been a boom in housing, and rising mortgage rates would not support that effort.  Our guess is that the Fed will cap the 10-year at 1.25%.

Odds and ends:  Here are a couple of stories we are watching:

• The tropical season continues as Tropical Storm Eta, which pummeled Central America, passed over Cuba over the weekend and is on its way to visit Florida.
• Protests continue in Belarus; Lukashenko remains in power.

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[1] Nader, Ralph, Unstoppable:  The Emerging Left-Right Alliance to Dismantle the Corporate State, Bold Type Books, New York, NY, 2014.