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

[Posted: 9:30 AM EDT] | PDF

Our Daily Comment today provides more detail on the Bank of England’s possible future move to adopt negative interest rates, which we flagged yesterday before details were available.  We also review some good news on Chinese trade statistics, although that is balanced by a number of reports showing global tensions on the rise and resurging coronavirus infections in some places.

United Kingdom:  We now have more detail on the Bank of England’s communication with bankers regarding their readiness for negative interest rates, which news outlets reported just as our Daily Comment was going to press yesterday morning.  In a letter to British bank chiefs, the BOE requested information on their “operational readiness and challenges with potential implementation, particularly in terms of technology capabilities,” if negative interest rates were adopted.

• The letter said there is no guarantee that negative interest rates would be introduced.  Indeed, BOE officials have long insisted they didn’t think negative rates were appropriate for the U.K., although they’ve softened their stance in recent months in response to the economic slowdown resulting from the coronavirus pandemic.
• All the same, the inquiry is being taken as a sign that officials are weighing the merits of the policy despite bankers’ concerns that it would heap problems on a sector already weighed down by COVID-19 and Brexit.
• While negative rates in the U.K. aren’t set in stone, increasing evidence that the BOE is seriously considering them is having an impact on financial markets.  Gilts with maturities out to five years already trade with a negative yield on expectations that a subzero policy rate could be in the offing.  As more and more signs point to future negative policy rates, British financials are likely to be put under increasing pressure.

China:  September imports jumped to a record $203 billion, up a robust 13.2% year-over-year (see data tables below).  Exports, bolstered by strong sales of electrical devices and medical equipment, were up 9.9% on the year.  The figures illustrate how China’s quick recovery from the coronavirus has the potential to help strengthen worldwide economic growth if it continues apace.  The news should therefore be bullish for risk assets, including commodities.

China-Australia:  Despite the rise in Chinese imports, some countries or industries facing Beijing’s political ire may not be able to benefit.  The Australian government is investigating reports that the Chinese government has issued a verbal communication to state-owned energy firms and steel mills to immediately stop importing Australian coal — a potentially crushing blow to the country’s coal export industry.  China has already imposed sanctions on Australian barley, beef, and wine imports following a sharp deterioration in diplomatic relations linked to Canberra’s call for an inquiry into the origins of the COVID-19 pandemic in Wuhan.

European Union-Russia:  The European Union agreed to impose targeted sanctions, including travel bans and asset freezes, against Russian officials and entities allegedly involved in the poisoning of Russian opposition leader Alexei Navalny.

Nagorno-Karabakh:  Armenian and Azerbaijani forces continue to exchange fire in and around the breakaway Nagorno-Karabakh region, despite international calls for both sides to implement and stick to a Russian-brokered humanitarian ceasefire.  Both sides blame the other for violating the ceasefire.  The continued fighting has generated an outpouring of support from the large Armenian diaspora in the U.S.  Reality television star Kim Kardashian, who is of Armenian descent, announced that she has donated $1 million to the Armenia Fund, which seeks to provide humanitarian relief efforts such as food, shelter, and medical care for those affected by the conflict.

Turkey-Greece:  The Turkish government said it will again send one of its seismic exploration ships, the Oruç Reis, to explore for oil and gas near Greece’s eastern-most islands.  This is an area recognized as Greek territorial waters under the Convention on the Law of the Sea.  The move, which is strongly protested by the Greek government threatens to further exacerbate tensions as Turkey tries to become a player in the burgeoning natural gas fields of the eastern Mediterranean (for more detail on these tensions, see our Weekly Geopolitical Reports published on September 28 and October 5).

Argentina:  Just two months after reaching a deal to restructure its $65 billion in foreign debt, the country appears to be on course for its seventh currency devaluation in the last 20 years.  Argentine bond prices have dropped back to distressed levels, equity prices have collapsed, and the gap between the official and black-market exchange rates is widening.  Analysts and investors think that with just $1 billion in liquid reserves to hand, Argentina’s central bank will be forced to tighten restrictions on imports and reset the peso at a new, much weaker value.

U.S. Supreme Court:  The Senate Judiciary Committee opened its Supreme Court confirmation hearing for Judge Amy Coney Barrett, but most of the action on the first day consisted of relatively predictable opening statements by Republicans, Democrats, and the nominee herself.

U.S. Elections:  As investors internalize the possibility that the Democrats could win control of the House, the Senate, and the Presidency next month, making passage of a massive new fiscal stimulus package likely, yields on U.S. Treasury obligations continue to trend higher.  If yields continue to rise for longer maturities, it would eventually force the Fed to decide definitively on whether to impose yield curve control and cap longer-term yields.

U.S. Technology Sector:  Illustrating how digital content and distribution are becoming so important to the economy and the future of many companies, Walt Disney Co. (DIS, 123.97) announced a major reorganization meant to give priority to its video streaming services and ensure they get a steady flow of the company’s best content. This shift echoes similar moves by other entertainment giants.

U.S. Energy Sector:  Wil VanLoh, the CEO of a private equity firm that through its portfolio companies is the second-largest U.S. driller, has warned that rampant hydraulic fracturing or “fracking” has permanently damaged the country’s oil and gas reserves.  According to VanLoh, a key problem is that wells have been drilled too close to one another, which will make it harder to fully exploit the oil and gas underground and sustain lasting U.S. energy independence.

• On the flip side, of course, smaller-than-expected reserves might eventually help support prices if and when demand recovers, although that day appears far off in the future.
• Separately, the International Energy Agency issued a report saying the world’s transition to cleaner sources of energy is gaining speed as the coronavirus pandemic accelerates the shift in investment away from fossil fuels.

COVID-19:  Official data show confirmed cases have risen to 37,867,739 worldwide, with 1,081,746 deaths and 26,315,281 recoveries.  In the United States, confirmed cases rose to 7,804,699, with 215,089 deaths and 3,106,728 recoveries.  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 only about 41,000 yesterday, raising some hope that the resurgent seven-day moving average could start to come down soon.  Deaths remained close to their recent average of about 700.  However, data show national hospitalizations have recently been rebounding strongly.  Despite the rebound in infections and hospitalizations in some localities, authorities are reluctant to reimpose broad, generalized economic lockdowns like they did in the spring.
• Johnson & Johnson (JNJ, 151.84) said it has paused all further dosing in its Phase III vaccine trial after a study volunteer came down with an unexplained illness.  An independent safety board is now reviewing the subject’s illness so the company can determine next steps.  This is the second time trials for a COVID-19 vaccine have been paused over a safety concern. Last month, AstraZeneca PLC paused clinical trials of its experimental vaccine in the U.K. after a participant had an unexplained illness. The U.K. study resumed, but a large U.S. study is still on hold.  The setbacks serve as a reminder that there will be challenges in getting an effective vaccine developed and administered widely, even though there are already dozens of candidates in testing.
• A Nevada man became the first published case of COVID-19 reinfection in the U.S., adding to a number of examples worldwide that patients who have recovered from the disease might still be at risk of getting it again.
• In the U.K., Prime Minister Johnson is facing a potential new political crisis after a sensational document dump from his Scientific Advisory Group on Emergencies (SAGE).  In part, the documents reveal the advisory group’s damning critique of the government’s test-and-trace system.  Moreover, they also show Johnson’s government rejected advice from its experts to implement a “circuit-breaker” lockdown to get on top of the coronavirus in September. The SAGE minutes from a Zoom meeting on September 21 show in stark terms that Chief Medical Officer Chris Whitty, Chief Scientific Adviser Patrick Vallance, and the government’s other scientific advisers are now publicly at odds with the policy being pursued by Johnson and his ministers.

 Economic Impacts

• Because of a surge in remote work, study, and home entertainment during the pandemic, market research firms say worldwide personal computer shipments in the third quarter were up approximately 9% from one year earlier, marking their strongest growth in a decade.

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

[Posted: 9:30 AM EDT] | PDF

Good morning.  It’s Columbus Day, so commercial bank operations are partially closed.  There is no official market for Treasuries today, although you can still trade Treasury futures. Equity markets are working higher this morning.  Judge Barrett’s confirmation process begins this morning and will dominate the media.  We start today with China news; the Golden Week holiday is over, and China is heading back to work.  EU policy toward American tech firms comes next.  In U.S. policy news, current talks are at an impasse.  Our ongoing coverage of the pandemic follows.  In global news, we recap the North Korean military parade, the 10^th week of protests in Belarus, and the IMF/World Bank meetings that are starting in Washington. Here are the details:

BREAKING:  The BOE is discussing the potential impact of negative policy rates on the banking system.  No details are available, but the news adds to evidence that the U.K. central bank is considering negative policy rates.

China news:  One of the important insights during Golden Week was that internal travel returned.  Domestic flights rose 13% from last year, further evidence of China’s economic recovery from the pandemic.

• Although it is clear that relations between the U.S. and China are cooling rapidly, apparently the financial industry hasn’t taken notice. During the Trump administration, 102 Chinese companies have listed on U.S. exchanges compared to 105 during the last administration’s two terms.  Some of this growth may be tied to fears that this avenue of financing is closing, and Chinese firms want to tap U.S. markets while they still can.
• Last week we noted that the CNY had been appreciating. Right on schedule, the PBOC has eased financing costs to short the currency in an attempt to slow the currency’s rise.
• Pew has issued a survey showing that there has been a sharp rise in unfavorable views toward China.

This clear rise in negative views is seen in attitudes toward Xi Jinping.

Coupled with falling U.S. ratings, the trend toward a leaderless world does seem to be accelerating.

• National Security Advisor O’Brien, in a speech at UNLV, warned China that a military takeover of Taiwan would be difficult and maintained the U.S. policy of strategic ambiguity regarding the possible U.S. reaction to military action against the island. The policy of ambiguity is designed to keep both sides unsure of what the U.S. would do; by not being explicit, it keeps Taipei from acting boldly, assuming U.S. support, and keeps Beijing from believing it can act with impunity against Taiwan.

Technology:  The EU is planning tougher regulation against large tech firms that are mostly based in the U.S.  The goal of the EU is to curb the power of these firms.  Although U.S. regulators are moving against some tech firms on antitrust grounds, we would not expect the U.S. to look favorably on Europe’s attempts to regulate these firms.  And, in what looks like a PR mistake, Silicon Valley firms are said to be cutting salaries of workers who decamp to lower-cost areas to work.

U.S. Policy:  Although talks continue, Congress and the White House remain at an impasse on fiscal stimulus.  We suspect that nothing will be done before the election.  Although the economic data does support the idea that the recession is over, there is a growing risk that the recovery will be sluggish.  That outcome isn’t necessarily bad for financial markets as it extends the length of monetary policy accommodation.  However, the economic and political fallout could be negative.

COVID-19:  The number of reported cases is 37,575,402 with 1,077,629 deaths and 26,109,425 recoveries.  In the U.S., there are 7,763,457 confirmed cases with 212,789 deaths and 3,075,077 recoveries.  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: 

• Europe is rapidly losing control over the virus, and governments are trying to reimpose controls. However, a degree of pandemic fatigue has set in, and compliance has been spotty.  The resurgence is likely tied to cooler weather, which is leading to people moving back inside, increasing the likelihood of infections.
• Europe isn’t the only place to see a faster pace of infections. India is also dealing with a rapid spread.
• As we have been reporting recently, New York is facing areas where the virus spread is accelerating. So far, the outbreaks have been localized, but there is fear of a new and wider surge in cases.  Across the U.S., cases have been rising.
• Vaccines carry some degree of risk. Although they are generally safe for most people, there have been incidents of error that have harmed recipients.  Because of this risk, the U.S. government has a program designed to compensate victims who have been harmed by a vaccine.  However, for COVID-19, the U.S. is planning to use a program that is less generous to those harmed.  We will be watching to see if this decision has any negative impact on acceptance.
• The debate over opening elementary and secondary schools has been heated. Many parents would like to see schools reopen; managing home learning is difficult for parents who have outside jobs.  At the same time, teachers fear they will be at risk from their students.  As some schools reopen, we are seeing the data come in and the indications are that these schools are not all that risky.  In other words, the data suggest schools should reopen.

Restaurants and economics:  The National Restaurant Association reports that 100,000 outlets have closed over the past six months due to the pandemic.  That is about 17% of the total for the nation.  Some of these closures are temporary, but for many the closures will likely be permanent.  Another developing trend is that larger chains are better equipped to adapt to the pandemic.  They have access to capital to restructure their businesses and can conduct regional or national ad campaigns to highlight their adaptations.  Smaller restaurants often lack this capacity and are prone to failure.  Although there is great fear that the post COVID-19 world could be one where there are few independent outlets, in reality, the restaurant industry is one that is characterized by easy entrance and exit.  Therefore, the cost of starting a restaurant isn’t extreme, and the ability to close one, compared to a factory, is less onerous.  For that reason, we would expect a recovery once the pandemic passes.  That doesn’t mean there won’t be changes; the focus on takeout will still be elevated.

World news:  Here is the recap of the weekend.

• As we noted last week, North Korea was celebrating the 75^th anniversary of the founding of the Workers’ Party and with that featured a military parade. These are watched closely by analysts to monitor the Hermit Kingdom’s military progress.  The parade didn’t disappoint.  Two new missiles were unveiled, a Hwasong-16 and a Pukguksong-4.  The former is a massive “mobile” ICBM.  If operable, it would be the world’s largest.  It isn’t apparent why Pyongyang wants such a large missile.  The Hwasong-15 is more than capable of reaching the U.S. and is easier to launch.  The Hwasong-16 is so big that (a) it would be easy for the U.S. to track its movements, and (b) it would take so much time to set up that it would risk destruction before launch.  The Pukguksong-4 is a SLBM.  As with the Hwasong-16, it is larger and has greater range than those North Korea has in its current arsenal.  It should be noted that neither missile has been tested; in fact, it is possible they could be mock-ups.  The news is not friendly but not overly threatening.
• The EU is calling on the U.S. to end tariffs on its commercial aircraft, warning it will escalate tariffs if it gets a favorable ruling from the WTO on October 15. The U.S. won the right to retaliate against EU subsidies for its aircraft manufacturing.  The EU is seeking similar rights in its countersuit.
• Although Russia was able to negotiate a ceasefire in the Armenia/Azerbaijan conflict, it doesn’t seem to be holding. Russia is usually able to bring these tensions under control, but with Turkey’s overt support of Azerbaijan, it may take more aggressive action by Moscow to freeze this conflict.
• The IMF/World Bank meetings are occurring this week in Washington. Emerging economies are using the event to press for additional debt relief.
• A group of militias with ties to Iran have offered the U.S. a conditional ceasefire if the U.S. presents a timetable for leaving. We doubt the U.S. will take up the offer; first, it makes the U.S. look weak to accept such terms, and second, it isn’t obvious if the group represents the majority of militias.  At the same time, U.S. troop levels are falling to a point where keeping them in Iraq is becoming a problem.  There are probably too few now to be a deterrent, but they remain attractive targets.
• The Belarus protests continued this weekend.

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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.  Hurricane Delta is expected to make landfall in Louisiana today.  U.S. equity futures continue to trend higher this morning.  Since stimulus hopes are supporting the rally, we begin with commentary on the state of negotiations.  World news is next; we cover EU sanctions on Russia, U.S. sanctions on Iran, rising tensions in Cyprus, North Korea’s Saturday parade, and an update on Brexit.  With China still working through its Golden Week holiday, news flow is unusually slow, but we are seeing the CNY rally.  We wrap up comments with our COVID-19 update.  Being Friday, a new Asset Allocation Weekly, podcast, and chart book are available.  Here are the details:

Stimulus talks:  Although the two sides continue to talk, we are getting so close to the election that it is about impossible to get something passed before November 3.  In some respects, the basic outlines of a deal remain in place—House Democrats want a large fiscal program, while the Senate is much less enthused.  The White House continues to vacillate between no talks to wanting a big deal.  The current ploy is to offer small, targeted aid, e.g., to the airline or restaurant industries.  House Democrats are willing to consider such aid but only if it is part of a large package.  So, if the odds of a deal are so long, why are equities continuing to trade as if something is coming?  The consensus is that whoever wins in November will make stimulus his first order of business.  We agree with this idea, but getting an actual deal done may not be as easy as it looks.  The lack of stimulus is having an impact on the economy; there is growing evidence that the Q3 bounce[1] is stalling, and economists are now estimating that the labor market won’t reach the last cycle peak until 2023.  The inability to pass legislation will probably lead to a pause in growth. Equity markets are assuming that (a) the next government will be successful in lifting fiscal spending, and (b) the Fed will probably resume aggressive balance sheet expansion as the economy slows.

World news:  Lots of news on this front.  Here are the details:

• The U.S. announced sanctions on 18 Iranian banks, including the Middle East Bank, which manages Iran’s food and medicine imports. Although such imports are exempt from sanctions, including this bank will probably affect imports of these goods.  We doubt that Tehran will retaliate in front of the U.S. elections, hoping for a thaw if Biden wins.  In the meantime, China will likely expand its business with Iran as Beijing is less worried about American sanctions.
• In 2015, hackers launched a cyberattack on the German Bundestag; the EU is preparing sanctions against Russian military officers said to be involved in the action.
• Cyprus is divided; the northern part of the island is controlled by Turkish Cypriots, the south by Greek Cypriots. The northern government opened a section of beach that has been effectively closed for years.  This is mostly a symbolic move, but it exacerbates tensions with the southern government and will likely involve the EU and Turkey.
• North Korea will hold a military parade on Saturday, marking the 75^th anniversary of the founding of the Workers’ Party. Analysts will be watching to see if Pyongyang unveils any new missiles and other hardware.  There will be a special emphasis on indigenous hardware, including launch vehicles.  Although we don’t know for sure which candidate Kim Jong Un would prefer, we do note that last year state media referred to VP Biden as a “rabid dog” who should be “beaten to death.”
• Although there is still little definitive news on EU/U.K. trade talks, optimism for an agreement remains elevated. Meetings between PM Johnson and EU Commission President von der Leyen have lifted hopes.  In some respects, the parties had better negotiate a deal; MPs report that the majority of businesses are unprepared for a hard Brexit and are essentially wagering that the sides will reach an agreement

China:  The CNY is rallying.  China’s economic recovery is outpacing much of the rest of the world, and it appears that it has been able to manage the virus.

This chart shows the CNY/USD exchange rate on an inverted scale; a rising number indicates a stronger CNY.  We have placed a star at the current exchange rate.  Interestingly enough, a stronger currency will make tariffs increasingly effective.  Note that since early 2018, when the U.S. began implementing widespread tariffs on China, the CNY depreciated, offsetting much of the effect of the tariffs.  The recent recovery in the Chinese currency will tend to enhance the trade impact of the tariffs.

COVID-19:  The number of reported cases is 36,565,929 with 1,062,636 deaths and 25,484,014 recoveries.  In the U.S., there are 7,607,890 confirmed cases with 212,789 deaths and 3,021,252 recoveries.  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 is showing an increase in states with rising infections; 13 states are showing falling infections, while 38 states and the District of Columbia are exhibiting rising infections.

Virology: 

• The WSJ has an investigative report showing that COVID-19 was circulating in the U.S. as early as mid-January, well before officials were able to confirm that infections were taking place in real time. This data makes sense.  The first cases appeared in California, a state well connected to China.  New York, New Jersey, Florida, and Texas were close behind.  All four are globally integrated and thus would be vulnerable to foreign transmission.  Tomas Pueyo, who has been commenting on the pandemic and penned the famous “The Hammer and the Dance,” recently wrote a NYT op-ed calling for stricter border controls.  Simply put, if you want to contain the virus, don’t let outsiders in.  This prescription is a direct threat to globalization, but Pueyo makes a strong case for “fences.”  The WSJ report tends to confirm Pueyo’s position.
• The data on the virus is becoming increasingly clear; young people are more likely to contract the virus, but older people are more likely to die from it. Essentially, the young have become a vector for their grandparents.
• There are a number of firms testing antibody treatments, including some with high concentrations of these antibodies.
• The WHO has a program to try to distribute vaccines to less developed nations. China has decided to join the effort, most likely as a public relations move.

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[1] Using the NY FRB Weekly Economic Index, the current projection for Q3 annualized GDP is +27.8%

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

[Posted: 9:30 AM EDT] | PDF

Good morning and happy Hydrogen Day (its atomic weight is 1.008, or “10-08”).  Equity markets continue to move higher; although the S&P 500 remains below its recent peak, the market remains resilient.  Today’s commentary starts with the FOMC minutes.  We mention the debate followed by China news.  Brexit comes next with an update on international news.  There is our usual update of pandemic news, and we close with general market observations and other news.  And, being Thursday, the Weekly Energy Update is available.  Here are the details:

The FOMC minutes:  Fed minutes are always a sanitized version of events.  In 2025, the full transcripts will be released.  It is an interesting exercise to see “what they really thought.”  But, for now, all we have is the current version of events as described in the official minutes.  In general, there were no huge surprises.  First, there was unanimous concern about the lack of fiscal follow through.  Second, there was some disagreement on forward guidance; most members favored a less specific reaction function, while a few seemed to prefer something more concrete (e.g., no rate hikes until core PCE exceeds 2% for six months), and a few others thought no further guidance beyond the dots was necessary.  Third, there was also some discussion about the allocation of QE (what term of bonds to buy), suggesting the Fed may be trying to establish some level of yield curve control.  We will be watching for more details on this during the November meeting.  Overall, stimulus policy is more important at this point, as the financial markets expect monetary policy to be accommodative for the foreseeable future.  However, as central banks try to do, the minutes show policymakers want to maintain the highest level of flexibility possible, which means the markets don’t have complete certainty of future behavior.

The VP debate:  There isn’t really a lot to say.  From our perch, neither participant said anything that will change any voters’ mind.  At this juncture, the goal is turnout; there is a very small contingent that appears to be truly undecided.  We didn’t see anything in the debate that may have swayed the few voters who may still be on the fence.  It has been announced this morning that the next presidential debate will be virtual and held a week from today.  President Trump is opposing this arrangement.

China:  America’s China policy has moved significantly over the past five years.  Late in Obama’s term, policy became less friendly, but under President Trump it has taken a clear turn toward cooler relations.  SoS Pompeo is laying out a Cold War stance where the U.S. intends to isolate China and eventually cause an ouster of the CPC.  Interestingly enough, a member of the administration considered a China hawk has become increasingly cautious about this turn to hostility.  Robert Lighthizer, the USTR, has a long-term goal of changing how China’s economy works.  He wants it to become less export-oriented and more focused on domestic consumption.  In addition, he wants to use trade policy to force China to shift its policy direction.  He appears to have little interest in participating in another Cold War.  In that regard, he seems to view China as similar to Japan in the 1980s, not the Soviets in the 1950s.  It appears his stance is rapidly losing favor in Washington.  Meanwhile, U.S. policy is leading to some level of decoupling; other nations are vying for the direct investment that had gone to China.  Other Asian nations and Mexico appear to be the greatest beneficiaries.

• Henry Kissinger is warning that the U.S. and China are following a path similar to the one that led to WWI. We tend to agree with him. Although there is much talk of a new “Cold War,” the reality is that China and the U.S., much like Britain and Germany, are economically entwined, and they are engaged in more of a great power competition and less of an ideological one.  In some respects, it makes the odds of a hot war higher than our competition with the Soviets, which was less tied to economic issues.  In other words, it was much easier to isolate Russia; isolating China, who has economic relations around the world, will be much more difficult.
• The U.S. is considering curbs on two Chinese money transfer apps, Ant Group and Tencent (TCEHY, USD, 69.32). If these are excluded from the U.S. market, it would be a blow to their future growth.  Ant Group is planning an IPO soon (it is currently a division of Alibaba, BABA, USD, 301.63), and this restriction could dampen investor sentiment toward the company.

Brexit:  Although there is little solid evidence to suggest a deal is near, optimism is remarkably high, especially from the U.K. side.  This either means that negotiators are putting up a good front, or that positions haven’t become too hardened and there remains room for a deal.  Meanwhile, the Scottish parliament has rejected the Internal Market Bill.  We are not sure what this means; it is possible that the law might not apply in Scotland or it may mean that Westminster ignores the outcome (we would wager on the second outcome).  This does show that the risk of devolution is elevated, and there is a risk that the Johnson administration will end up with a smaller United Kingdom.

Market news:  Here are a couple of items worth noting:

• One of the more interesting developments from the Great Financial Crisis was that of single-family home rentals. Large financial firms bought up thousands of foreclosed homes and created rental companies.  Real estate analysts had doubts about the model; managing far flung assets would tend to raise maintenance costs.  The industry is continuing to move forward as tenants flee the cities for the suburbs, but they lack the ability to purchase.  Occupancy is high and pushing up rents.
• Gold prices have struggled recently. The lack of fiscal stimulus and rising interest rates have played a role.  Another factor is central bank selling.  The World Gold Council reports that central banks sold a net 12.3 metric tonnes of gold last month.  Uzbekistan’s central bank was the largest gold liquidator last month.

Policy news:  Although the White House called off stimulus negotiations, there is talk of passing a series of individual bills to aid certain sectors of the economy.  This plan tends to favor the GOP, which would like to target various industries and households without funding things they don’t like, such as state and local governments.  The House leadership opposes individual bills, yet they may have little choice but to accept some of the plans, such as airline bailouts.  The problem with the individual bill approach is that it slows the process significantly.  In addition, since the Senate seems to have little inclination to approve any further spending, this individual bill plan may not go anywhere.

• The DOJ is expanding antitrust action against the poultry industry, accusing several firms of collusion on prices.

International news:  President Trump announced he would like to see the troops in Afghanistan withdrawn by Christmas.  Although that isn’t likely, troop levels are expected to be around 2.5K by year’s end, a level low enough that it probably makes little sense to keep any troops in the country.  The problem is that small contingents are less able to affect security but do become targets for insurgents.  For a flavor of the length of the Afghan War, Stars and Stripes has an article about fathers and sons serving in theater.

• One development we have been watching is rising instability in Russia’s near abroad. As we have noted in recent weeks, Belarus remains unsettled.  There is a hot war in the Caucasus region between Armenia and Azerbaijan.  There has been a coup in Kyrgyzstan.  All of these problems raise the question—can Moscow maintain stability on its borders?
• No Davos meeting next year; the World Economic Forum will meet in May (instead of January) in Lucerne.

COVID-19:  The number of reported cases is 36,212,630 with 1,056,768 deaths and 25,268,014 recoveries.  In the U.S., there are 7,551,715 confirmed cases with 211,844 deaths and 2,999,895 recoveries.  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.  And, for some detail about how the virus has mutated over time, here is a chart exhibiting how different samples from various parts of the world show the degree of mutation over time.  The Axios weekly state map is updated.

Virology: 

• The recent upswing in infections tends to be toward younger people. Older people have tended to isolate themselves due to the recognition of their risk.  However, full isolation is difficult, and we note that in Europe, infections among the elderly are picking up again.
• AstraZeneca (ANZ, USD 53.69) has pledged not to take a profit from the sale of a vaccine “during the pandemic.” Recent documents have clarified that the company believes this will occur by July 2021, which means it intends to earn money on a vaccine after that date.
• Testing for the virus has been a troublesome issue around the world. The lack of a quick, cheap and accurate test has hurt efforts to contain the pandemic.  European countries have banked on testing to avoid larger lockdowns, however, testing efforts are struggling.
• Regeneron (REGN, USD, 591.69) is asking the FDA for emergency approval of its antibody drug.
• One of the problems with all the data we receive on the spread of the virus is that (a) we know it is incomplete, and (b) there is an element of judgement regarding whether a fatality was caused by COVID-19 or some other comorbidity. One way to address the latter problem is to compare the current level of fatalities relative to the normal number of deaths in a region or nation.  In other words, people die on a regular basis, but if the number of deaths is higher than normal in a pandemic, it would be reasonable to assume that the likely cause was the virus.  Since April, deaths have been holding above normal.  It does appear that fatalities have declined to about normal for this time of year, which suggests that we are bringing the virus under control.

(Source:  https://www.cdc.gov/nchs/nvss/vsrr/covid19/excess_deaths.htm )

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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 a discussion of the latest coronavirus news.  We haven’t led off with pandemic news very often in recent months, given that authorities and scientists are gradually getting their hands around the crisis.  Today, however, we decided to go back to a coronavirus lead off because of the way President Trump’s statements on pandemic relief are having such a significant impact on the financial markets.  We also include a few words on tonight’s vice presidential debate in the U.S. and other news from overseas.

COVID-19:  Official data show confirmed cases have risen to 35,865,117 worldwide, with 1,050,821 deaths and 25,005,316 recoveries.  In the United States, confirmed cases rose to 7,502,004, with 210,918 deaths and 2,952,390 recoveries.  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 43,500 yesterday, putting the daily tally above 40,000 for the first time in three days.  That boosted the seven-day moving average of new infections to 43,981, higher than the 14-day moving average of 42,470.  The seven-day moving average of deaths was steady at approximately 700.
• The White House itself and the broader Trump administration remain a hotbed of new infections, with senior presidential advisor Stephen Miller becoming the latest high-profile official to test positive for the disease and enter into quarantine.
  • Press Secretary Kayleigh McEnany and at least three of her deputies have also tested positive, as have a series of others close to the president, including Trump campaign manager Bill Stepien, aide Hope Hicks, former New Jersey Governor Christie, former adviser Kellyanne Conway, and director of Oval Office operations Nick Luna.
  • Several of the nation’s top uniformed military officers went into quarantine Monday night after attending meetings at the Pentagon with a Coast Guard admiral who tested positive this week for COVID-19.  In addition, a military aide to the president who is responsible for carrying the nuclear launch codes also tested positive and had to go into quarantine.
  • As we noted yesterday, the outbreak of infections within the administration will likely be an additional drag on the president’s reelection prospects, since it highlights what some people see as the administration’s relaxed attitude toward the virus, and it plays into Democratic challenger Joe Biden’s accusation that the president has mismanaged the pandemic.
• Health and Human Services Secretary Azar and top Trump health adviser Scott Atlas met on Monday with several scientists backing a theory that the U.S. can quickly and safely achieve widespread immunity to the coronavirus by allowing it to spread unfettered among healthy people.  The controversial recommendation is not widely shared among infectious disease practitioners, who fear it would result in large numbers of unnecessary deaths and other complications.
• Against expectations, the White House cast aside its objections and endorsed the FDA’s strict guidelines for assessing whether a coronavirus vaccine should be given to the public, making it likely that a shot won’t be cleared until after the election.  The FDA formally issued the guidelines late Tuesday afternoon.
• GlaxoSmithKline (GSK, 36.81) and Vir Biotechnology (VIR, 41.50) said they are advancing their coronavirus drug into a final-stage clinical trial of COVID-19 patients at high risk of being hospitalized, in the latest sign of progress for the promising antibody class of treatments.
  • The companies expect to have initial study data by the end of this year and complete results by the first quarter of 2021. If the drug shows a benefit, it could be authorized for early use in the first half of 2021.
  • In an interview with the Wall Street Journal, billionaire philanthropist Bill Gates said the antibody drugs that are in testing and administered to President Trump could significantly reduce the death rate from COVID-19 once they are approved by regulators and more widely available.

 Economic Impacts

• Although there has already been some discussion of how the U.S. labor market data is distorted in the midst of the pandemic, economists are starting to gather evidence that the distortions actually are common worldwide.  For example, one economist at the OECD estimates there are as many as 30 million discouraged workers worldwide who have dropped out of the labor force, and therefore, they aren’t counted as unemployed.
• Even though high unemployment will likely be a drag on further economic recovery, many companies in the U.S. and Europe are buying back bonds to reduce the cash piles they built up earlier this year, signaling expectations for more stable economic times ahead.

 U.S. Policy Responses

• In testimony before Congress yesterday, Federal Reserve Chair Powell warned that since the economic recovery from the pandemic is still incomplete, failure to provide additional fiscal support to affected households and businesses could result in potentially “tragic” consequences.
  • In Powell’s view, any loss in economic momentum now could scare households and businesses into cutting their spending, potentially setting off a downward economic spiral.
  • In contrast, he argued that with so much remaining slack in the economy, there is little risk of providing excessively generous relief.
• Despite Powell’s continuing calls for more fiscal support and recent negotiating progress between Treasury Secretary Mnuchin and House Speaker Pelosi, President Trump called off any further talks on a new pandemic relief package at least until after the election, citing Democratic hopes to provide financial relief to state and local governments.  Later in the evening, however, he reversed course and signaled he would sign off on another round of stimulus spending if it included direct checks to individual taxpayers (to be sent out immediately), aid to airlines, and additional assistance to small businesses.
  • The initial initiative to end the talks was puzzling, even to many Republicans, especially those who saw a new relief package as essential to helping Republican senators facing tight races in the November election.  Foreclosing any chance of new stimulus would put the Republicans in even greater risk of losing control of the Senate.  Trump’s reversal is probably tied to the party’s realization that they can’t be seen as responsible for shutting off new fiscal measures.  Trump’s insistence that any new stimulus checks would be sent immediately, presumably before the election, is a clear sign that the back-and-forth is closely tied to electoral calculations.
  • At one level, Trump’s initial decision to end the talks underscores just how much he has decided to come out swinging after his hospitalization for COVID-19.  Since returning to the White House on Monday evening, the president has made several other equally provocative moves aimed at energizing his base, including forcefully downplaying the risks from the virus and requiring companies to pay much higher wages to highly-skilled foreign workers brought into the country on H-1B visas.  At another level, since the latest polling points to Trump losing considerable support after his combative approach to the first presidential debate and his infection with the coronavirus, it’s also possible Trump may be expecting to lose the election and, prior to his reversal, was hoping to deny the Democrats any policy wins simply out of spite.
  • In any case, the chaotic, contradictory statements should make it clear that the financial markets may have gotten ahead of themselves by looking past the risk of a disputed election and looking ahead to more fiscal stimulus.  The situation is a reminder that the political environment will probably remain quite volatile over the coming weeks.

 Foreign Policy Responses

• As infections rebound in Sweden, approaching levels last seen during the spring, the government is again relying mostly on voluntary measures to battle the pandemic.  Its latest measures, in force for less than a week, merely recommend that all members of a household should isolate for a week if one of them becomes infected. Those unable to work from home will be eligible for sick pay.  Anyone experiencing cold-like symptoms, such as a sore throat, is encouraged to stay at home and get tested for COVID-19.

 U.S. Election:  Vice President Mike Pence and Senator Kamala Harris, the Democratic vice presidential nominee, will face off in their first and only debate tonight amid President Trump’s ongoing bout with COVID-19, which is likely to keep the coronavirus pandemic in focus during the matchup.  Check out this article for a review of some of the other key themes likely to be dealt with in the debate.

U.S. Technology Industry:  The House Judiciary Committee’s subcommittee on anti-trust law issued its long-awaited report on anti-competitive practices in the technology industry, including recommendations that major firms like Facebook (FB, 258.66) and Amazon (AMZN, 3099.96) be forced to dramatically restructure their businesses.  For example, the report suggests forcing companies to restructure so they cannot use their dominance in one area to harm rivals in another. Business lines should be split apart and kept under separate management, if not sold off.  The report also calls for regulators to presume that any proposed acquisition by a dominant company are anti-competitive unless proven not to be.  Even though it’s not clear that the recommended measures would be passed by Congress, the report highlights the growing regulatory risk to the major technology stocks that have been performing so strongly this year.

Saudi Arabia:  In a sign that Saudi Arabia is edging closer to recognizing Israel and breaking with the Palestinians, Prince Bandar bin Sultan bin Abdulaziz issued a blistering attack on the Palestinian leadership for criticizing the Gulf states that have already recognized Israel.It is assumed that a prince of Bandar’s status (a former Saudi ambassador to the U.S. and chief of Saudi intelligence) would not make such a statement on Al Arabiya television unless it was sanctioned by the royal court.

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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 provides the latest details on President Trump’s bout with the coronavirus and related election news.  We also discuss various geopolitical and economic developments overseas, including the new hot spots in the Caucasus and Central Asia (we include maps, since most of our readers will probably be unfamiliar with those areas).  We end with the latest pandemic news.

Trump Coronavirus Infection:  Last night, President Trump was discharged from Walter Reed National Military Medical Center and returned to the White House residence, where aides say he will self-isolate while he recovers from the coronavirus.

• Meanwhile, Press Secretary Kayleigh McEnany and two of her aides tested positive for the virus, demonstrating how the White House has become a hotbed of infections.  That’s likely to be a liability for Trump as the November election approaches; it plays into Democratic challenger Joe Biden’s theme that Trump has mismanaged the pandemic.  Trump’s infection, therefore, seems likely to compound the decline in support for him in some polls resulting from his aggressive approach in the first presidential debate.  One way to read the strong performance in stocks yesterday is that investors may now be looking at a big enough Biden win to forestall the risk of a disputed election and ensure a sizable new pandemic relief program next year.
• In addition, the aggressive treatments given to Trump so far suggest his condition may be worse than officials acknowledge.  In any case, because of his age and obesity, he is also at elevated risk of complications from the disease.  If Trump has been sent home prematurely, eventually relapses, and ends up back at Walter Reed, it would likely cause even further damage to his electoral prospects.
• By the way, we note that European Commission President Ursula von der Leyen tested negative for the coronavirus for a second time after a high-risk contact last week. She will nonetheless stay in precautionary self-isolation until this evening.  Austrian Chancellor Sebastian Kurz and much of his staff and cabinet also tested negative after a close colleague tested positive on Monday.

U.S. Presidential Election:  Despite easing concerns about a hung election, investors are still casting about for ways to hedge U.S. equities in the event of a nasty election dispute.  With bonds showing little movement and gold falling during the September market swoon, fund managers are now trying out currencies that mirror stock movements, derivatives that provide insurance against falls, and emerging market bonds that offer a higher yielding, though riskier, hedge for equity holdings.

United States-Russia:  U.S. and Russian negotiators yesterday made progress on a new arms control deal that would freeze each side’s nuclear arsenal and outline the parameters for a detailed treaty to be negotiated next year.  If the deal comes together over the coming month, President Trump would have demonstrated that his diplomacy toward Moscow has borne fruit, while Russia would get its desired extension of the New START treaty, which is due to expire in early February.

United States-Switzerland:  Amid the general weakening in the U.S. dollar this year, the Swiss franc continues to appreciate.  Traders believe one positive aspect of the rising franc is that it could help keep the Trump administration from imposing trade restrictions against Switzerland.  If so, that would in turn help buoy the currency even further.

Nagorno-Karabakh:  Fighting between Azerbaijani forces and ethnic Armenian rebels in the Azeri enclave of Nagorno-Karabakh has finally died down a bit, while regional diplomatic efforts to find a longer-term solution have stepped up.  Turkish Foreign Minister Cavusoglu met with Azerbaijani President Aliyev in Baku today, while Armenian Prime Minister Pashinian discussed the fighting in a phone conversation with Russian President Putin.  However, the prospects for a solution are unknown.  Over the weekend, Azerbaijani President Aliyev demanded that Armenia set a timetable for withdrawing from Nagorno-Karabakh and surrounding Azerbaijani territories, saying that Azerbaijan would not end military action until that happened.

Kygyzstan:  Opposition groups have reportedly stormed the parliament building and other government offices in the capital of Bishkek, in an apparent effort to seize power after elections on Sunday that many claim were rigged.  The electoral authorities quickly invalidated the results of the election, showing parties allied to President Jeenbekov won the largest share of the votes.  The demonstrators also broke into the government’s national security headquarters and freed former President Atambayev, whose party said it set up a coordinating group to form a new government.

COVID-19:  Official data show confirmed cases have risen to 35,533,953 worldwide, with 1,044,884 deaths and 24,784,714 recoveries.  In the United States, confirmed cases rose to 7,459,101, with 210,195 deaths and 2,935,142 recoveries.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• Confirmed U.S. infections rose by about 39,600 yesterday, marking the second straight day in which new infections came in below 40,000.  Daily infections are now running below both the seven-day moving average of 43,089 and the 14-day average of 43,392.  This suggests the latest U.S. surge may be coming under control.  The daily average of deaths is also falling slightly and now stands at approximately 700.
• Meanwhile, Europe’s second coronavirus wave is spreading, and rising hospitalizations and deaths are prompting governments to impose more restrictions, from travel bans in Madrid to the closure of bars in Paris.  Of particular concern is that the new wave of infections is now spreading out from the young to the older and more vulnerable segments of the population.
• Just weeks after the CDC issued new guidelines acknowledging that aerosol transmission could be a factor in spreading the virus, only to revoke the language days later, the agency has again issued guidance noting that the tiny airborne particles can travel more than six feet and be infectious.
  • According to the CDC, the virus is primarily transmitted via respiratory droplets by people in close contact, including those who are physically near, or within about 6 feet of, each other. Those droplets cause infection when they are inhaled or deposited in the nose and mouth.
  • The agency also recognized, however, that some infections can be spread by exposure to the virus in small droplets, and particles that can linger in the air for minutes to hours. Evidence indicates that under certain conditions people with COVID-19 appear to have infected others who were more than 6 feet away.
• In the EU, the European Medicines Agency has accelerated the approval process for a vaccine being developed jointly by Germany’s BioNTech (BNTX, 80.70) and U.S. pharma giant Pfizer (PFE, 36.75).
  • Based on preliminary results showing the vaccine triggers an immune response in adults, the accelerated process will permit a rapid authorization of the shot as soon as there is data showing it is also safe.
  • The rapid approval process is the second to be approved by the EMA.  The first was for a vaccine being developed by the University of Oxford and British pharma major AstraZeneca (AZN, 54.49).
• In Russia, Health Minister Mikhail Murashko said he expects his ministry to approve a second Russian coronavirus vaccine as early as mid-October, though he declined to say whether the approval might be merely conditional or for emergency use only.

 Economic Impacts

• More evidence is accumulating that the recovery from the crisis is “K”-shaped, with some lucky sectors and their workers doing fine on an upward trajectory, while others find themselves sinking into unemployment and financial stress.
• Southwest Airlines (LUV, 38.49) is asking the company’s labor unions to accept pay cuts for the first time to prevent furloughs and layoffs through the end of next year.
• To survive the pandemic with smaller capacity resulting from the virus, some restaurants are limiting meals to 90 minutes or two hours.

 Financial Market Impacts

• Foreign investors have become net sellers of emerging market stocks and bonds in recent weeks, raising the risk that less-developed countries will face a spiral of falling currencies, rising borrowing costs, debt crises, and defaults.

 Policy Responses

• ECB President Lagarde said that since the eurozone’s economic recovery is starting to look a bit “shaky” amid a second wave of infections, the central bank is prepared to inject fresh monetary stimulus if necessary, including cutting a key interest rate further below zero.
• St. Louis FRB President Bullard said he expects the economy to snap back briskly from the pandemic, but investors may be surprised to see how slowly the central bank will back away from its accommodative policy stance.
• The IMF, in its latest Fiscal Monitor, called for rich countries around the world to increase public investment in order to help spark a strong economic recovery from the pandemic.  According to the report, advanced economies should worry less about their public debt and take advantage of historically low borrowing costs to increase spending on infrastructure maintenance immediately.
• Six months after launching the biggest small business aid initiative in history, Congress is working to extend the Paycheck Protection Program—but with new measures to ensure the most vulnerable of businesses have a better shot at funding.

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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!  Equity markets continue to work higher this morning.  We lead off with the president’s condition.  Policy news follows, which will focus on the potential for further stimulus.  There are three international areas of concern this morning—Brexit, Belarus, and Armenia/Azerbaijan—we summarize the latest.  China news is next, with a recap of economic news.  We close with the pandemic update.  Let’s get after it:

The President and COVID-19:  Commentary and speculation continue to swirl around the president’s medical condition.  It does appear he is getting aggressive treatment; for example, he reportedly has been given the steroid dexamethasone.  Normal protocols usually deploy this drug when a patient is severely affected by this virus.  That may not be the case this time, but if it is, it would suggest the president is rather ill because dexamethasone does carry significant side effects.

• One of the questions we have been getting is what happens if the president’s condition becomes grave. VP Pence would, at some point, take over his duties.  What happens for the election if the president can’t run?  The GOP leadership will convene and select a candidate.  The party’s 168 national members (three from each state and territory) meet to determine a candidate.  However, who gets on the ballot would be up to the states.  Given that voting is already underway in some states via mail-in ballots, the election would likely be decided by Congress.  In other words, if the president becomes incapacitated at this late date, the situation will become quite messy.
• National Security Advisor O’Brien warned America’s enemies that they should not entertain aggression due to the president’s illness.
• History shows that presidents have hidden their medical conditions. Grover Cleveland had surgery on his jaw to remove a tumor on a yacht anchored offshore to hide the situation.  Woodrow Wilson suffered a severe case of Spanish influenza and had a stroke; his wife mostly performed the functions of the president.  Franklin Roosevelt’s medical condition in his fourth term was grave; it was generally expected by his doctors that he would not survive the term, but he ran for office anyway.  President Kennedy hid his numerous maladies, including Addison’s disease.  Full transparency would be unusual.

Stimulus in parts?  President Trump has indicated he would like to see another round of fiscal stimulus.  In an interesting development, Speaker Pelosi has indicated she would support separate aid for the airline industry.  If true, this path would undermine her desire for a larger package and suggests she sees her negotiating position as weak.  We suspect the speaker is trying to placate moderate representatives who want to show they will able to bring home fiscal support for their districts.  Other policy news:

• The Treasury has opened an investigation on whether or not Vietnam is manipulating its currency.
• The U.S. is preparing an antitrust suit against Google (GOOGL, USD 1455.60).

Belarus:  The EU has sanctioned 40 members of the government, but, interestingly enough, not Lukashenko.  Belarus has withdrawn foreign media accreditation, meaning foreign journalists will be forced to leave the country.

Brexit:  Although Chancellor Merkel remains optimistic, the broader EU is concluding that the likelihood of a hard Brexit is high.  A no-deal Brexit would, no doubt, be disruptive, affecting the trade in medical goods, causing border snags, and raising uncertainty.

Nagorno-Karabakh:  Fighting continued over the weekend between Azerbaijan and Armenia.  Turkey has aligned with the former, and Armenia is in a difficult position given that Azerbaijan has a much better funded military due to its oil industry.  Turkey’s F-16s reportedly attacked Armenian positions.  Armenian artillery attacked the Azerbaijan city of Ganja over the weekend; the city is the nation’s second largest.  In previous flare-ups, Russia has eventually intervened and restored a cold peace.  However, Russia, dealing with the economic blowback of the pandemic and weak oil prices, appears less willing to race in this time.  And, the U.S. is obviously distracted.  Thus, Turkey may view this situation as an opportunity.  There is the potential for a disruption of oil supplies from the Baku region, but given global oversupply we doubt it would have a lasting bullish impact on prices.

China:  Fifty senators have sent a letter to USTR Lighthizer urging him to make a trade deal with Taiwan.  We doubt the USTR will be likely to do this, as making such an arrangement would end any future negotiations with Beijing.  However, the letter does highlight the fact that Congress is becoming increasingly anti-China.  China has developed a dominant market position in various key metals; as relations deteriorate, the West will need to develop these resources itself.  China can easily manipulate prices of these metals, making private investment too risky.  Thus, the government is stepping in to provide support.  China’s largest chipmaker, Semiconductor Manufacturing International Corp (USD SMICY 11.77), has been informed by U.S. suppliers that export restrictions may prevent them from selling goods to the company.

Economic news:  Some states apparently overpaid laid-off workers.  They want their money back, and it is unlikely these recipients have the savings to pay the states back.  Congress may deliver relief at some point, but, given how slow the states were to meet the demands for unemployment insurance, the mere news of this situation could crimp spending.

• Due to delays in movie releases, Regal Entertainment (CNWGY, USD 2.20) is shutting down its theaters.
• Eurozone services PMI data shows a definite softening, raising concerns that the recent rise in COVID-19 cases may be weakening the economy.

(Source: WSJ)

COVID-19:  The number of reported cases is 35,231,182 with 1,037,914 deaths and 24,539,096 recoveries.  In the U.S., there are 7,418,836 confirmed cases with 209,734 deaths and 2,911,699 recoveries.  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: 

• Although we don’t expect statewide or national lockdowns to return, localized lockdowns remain likely. A rise in cases is prompting NYC to consider localized restraints to slow infections.

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

[Posted: 9:30 AM EDT] | PDF

The big news this morning is that President Trump and the First Lady have contracted COVID-19.  U.S. equity markets are in full retreat on the news.  We address some of the potential ramifications.  It’s also employment Friday; we cover the data in detail below, but the quick take is that the data is mixed.  Payrolls came in a bit below forecast, although with revisions the data is close to expectations, while the unemployment rate fell.  The market reaction was modest. Comments on the economy and policy follow.  Brexit news is next.  The EU summit is underway; there is an update on what has transpired.  China news is next.  Our regular update on the pandemic follows, and we close with odds and ends.  And, being Friday, there is a new Asset Allocation Weekly, along with the related podcast and chart book.  Let’s get after it:

The President and COVID-19:  Around midnight, President Trump announced that both he and his wife tested positive for COVID-19.  Hope Hicks, a member of his staff, began exhibiting symptoms while traveling with the president to this week’s debate.  Here are some potential ramifications:

• The president joins other world leaders who have been infected, including U.K. PM Johnson and Brazilian President Bolsonaro. Johnson was incapacitated for a period of time, although formal power does not appear to have been transferred.  Bolsonaro’s case appears to have been milder.  We expect President Trump to remain in full control of the government, but his movements will be restricted to the White House.
• Given the president’s advanced age (74) and his weight, he would be considered part of the vulnerable class of patients. There are some anti-viral treatments, including steroids, that could aid his recovery.  We will monitor reports in the coming days on the severity of his illness; most people survive a bout of the disease, but he is in a high-risk category.
• This news upends the campaign. The election is about a month away.  Campaign travel will be impossible for the next couple of weeks at a minimum.  The next two debates will be postponed and very likely canceled.  The next one used a “town hall” format which would be difficult to manage in a pandemic.  In addition, VP Biden, who is also in a high-risk category, would be reluctant to be on the same stage with the president even after recovery because of the uncertainty surrounding the period of “virus shedding.”
• In the period before announcing he had contracted the disease, the president was circulating widely among his staff and others, including his nominee for the Supreme Court. Depending on when he was actually infected, it is possible many of his staff members could have been exposed.  This development could affect the executive function of the government.  We do note that VP Pence has tested negative for the virus.
• If powers opposed to the U.S. are so inclined, the distraction caused by this election and now the news of the disease in the White House could convince them that now is a good time to cause trouble. We will be watching for Chinese, Russian, Turkish, and Iranian aggression.
• Financial markets are treating this as a risk-off event. Equities are down, Treasury prices are up, gold is modestly higher but other metals are down, and the dollar is up, but only modestly.  We are in a period where equities are vulnerable.  In a contest between an incumbent Republican president and a Democratic challenger, a win by the latter usually brings a correction in stocks before the election, and equities tend to be depressed into Q2 of the first year of the new president.  This news increases the likelihood of additional weakness going into the election.

Economic and Policy news: 

• House Democrats, on a mostly party-line vote, approved the $2.2 trillion stimulus package. This signals that negotiations with the White House are probably over, and we won’t see a new stimulus bill before the election.  A few Democratic representatives voted against the bill, arguing it was too soon to end negotiations.  The Senate leadership has already indicated it won’t take up the bill; the White House seems opposed too, and with the president dealing with COVID-19, it seems unlikely there will be any movement on this measure.
• Moody’s (MCO, USD 293.50) has downgraded New York State and New York City credit ratings. General obligation bonds were downgraded to Aa2 from Aa1.  The rating agency cited the impact of the pandemic for its decision.  Both remain investment grade.
• The lack of aid may lead to massive utility suspensions for millions of Americans. There were widespread forbearance measures implemented during the pandemic, but as these actions end, months of unpaid utility bills are causing utilities to begin shutting off power, gas, and water.  The electric and gas utilities estimate $24.3 billion of unpaid bills.  Essentially, this is an incidence problem; or, put another way, “who pays?”  Do we allow thousands of homes to go dark?  In Indiana, for example, 112,000 households are 120+ delinquent.  Or, do capital owners bear the burden when governments force utilities to keep the power on?

 Brexit:  Yesterday there were reports from the U.K. side that negotiators had reached a breakthrough, but EU negotiators were much more cautious about progress.  Although talks continue, the four areas of contention—fisheries, state aid, justice cooperation, and governance—remain unresolved.  Additionally, the EU is suing Britain for withdrawing from the earlier agreement.  Meanwhile, U.S. financial firms are continuing to pull assets out of London in anticipation of a hard Brexit.

The EU Summit:  The EU has wanted to signal its unity against the Lukashenko government but Cyprus, wanting to punish Turkey for drilling in the waters off Cyprus, blocked any sanctions without its goal being met.  In the end, the EU managed to placate Cyprus with language pushing for talks between the EU and Turkey.  The tortured negotiations are evidence of the unwieldy nature of the European Union.  The EU is warning Turkey about sanctions, but we tend to view the threat as toothless because Turkey can, at any time, unleash a wave of refugees into Europe.  One element of optimism; NATO has established ground rules with the Turkish military to reduce the odds of a mistaken conflict.

• In other European news, the ECB tripled its purchases of European corporate debt last week compared to the end of August as part of its QE program.

China:  One of the critical issues with decoupling from China is who will bear the cost?  Businesses whose supply chains are dependent on China would suffer greatly from decoupling and have, so far, resisted this trend.  In some respects, China is counting on this resistance to thwart Washington’s move to change policies toward Beijing.

• China is working on developing massive iron ore deposits in Guinea. The involvement of China is forcing Western miners to decide if they want to participate in the project and gain access to the resources, or stay away and risk seeing China, the world’s largest consumer of iron ore, reduce its demand from these miners.  A complicating factor is that cooperating with China may not necessarily be positive; terms could be changed on the fly.

COVID-19:  The number of reported cases is 34,345,342 with 1,023,817 deaths and 23,890,360 recoveries.  In the U.S., there are 7,279,109 confirmed cases with 207,816 deaths and 2,860,650 recoveries.  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 state data show increasing infection rates, with 36 states showing rising infections and 15 falling (Washington, D.C. is included in the count).  South Carolina has the lowest rate and Wyoming has the highest.

Virology: 

• Wisconsin is seeing a sharp rise in infections, which is starting to strain the medical infrastructure. The governor is relaxing regulations to allow retired medical personnel and out-of-state workers easier access.
• There is growing evidence that infection rates in Latin America are starting to decline. This is probably due to the onset of herd immunity.
• Turkey is admitting its infection numbers are undercounted; asymptomatic cases have been excluded.

Odds and ends:  Freedom House’s annual report was published yesterday, and it paints a disappointing picture of the loss of democratic freedoms due to the pandemic.  Regulators have charged principals at BitMEX, a major bitcoin exchange, with money laundering.  We have been expecting, for some time, that independent crypto-currencies would eventually be extinguished by governments.  Belgium is a deeply divided nation; long-time divisions between the Flemish and the Walloons have led to long periods where the political class fails to form governments.  But, take heart…after two years, a new government has been formed.

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

[Posted: 9:30 AM EDT] | PDF

It’s the first day of the fourth quarter and the start of China’s “Golden week.”  The EU begins its summit today.  U.S. equity markets continue their rally this morning; Tokyo markets were affected by a technical glitch.  We begin our comments with policy news, discussing the chances for a stimulus bill, with economic news to follow.  China news comes next followed by our regular pandemic update.  A comment on technology and Russian tax policy closes out our discussion.  Being Thursday, the Weekly Energy Update is available.  Here are the details:

BREAKING:  Negotiators between the EU and U.K. appear to be making significant progress on an exit agreement.  The GBP has lifted on the reports.  Fishing rights are said to be the last sticking point.

Policy news:  Some of the recent rally seems to be tied to hopes for a stimulus package, although steadily improving earnings outlook is part of the lift as well.  House Democrats have proposed a $2.2 trillion package; Speaker Pelosi and Treasury Secretary Mnuchin have been in talks.  The two sides are still negotiating and, so far, the speaker hasn’t called a vote on the Democrats’ package, which is good news.  That means there is still hope for talks.  Our position is that a deal is unlikely.  Here’s why.  First, the White House still seems to think that $2.2 trillion is too much spending; we suspect this position is being driven by Chief of Staff Meadows, who represents the austerity coalition of the GOP.  Second, it doesn’t look like there is any appetite for more spending among Senate Republicans.  Recent economic data has been pretty good, although a few of the high frequency numbers suggest some softening is developing.  We remain surprised that the president hasn’t pushed harder for more spending, but he may have concluded that looking like he “caved” to the opposition is more costly to his re-election than a slowing economy.  In reality, given the lags in data reporting, if we are weakening, the data won’t clearly show it until after the election.

• One characteristic of this recovery has been its bifurcated nature. Less affluent households have been hard hit, while the better off have managed rather well.

Although the lowest earning cohorts always tend to suffer more, this time around they have been especially hard hit.  Meanwhile, the top quarter has fully recovered.  What the political class may be missing is that the middle 50% suffered more than normal in this downturn.  The other part they may be missing is that layoffs are starting to rise.  Airlines are warning that they will start furloughs without further funding.  Insurance companies announced layoffs.  Energy companies, chemical firms, and financial firms did, too.  Although layoff news is always anecdotal and may not reflect hiring elsewhere, it can also act as an early warning of future weakness.

We fully expect that further fiscal spending will be implemented regardless of who occupies the White House next year.  Obviously, the priorities and levels may be different.  If the recent rally in stocks is based on optimism over a fiscal package, we may be due for a pullback.  The key item to watch for is if the House calls a vote without clear signals of support from the White House.  That will mean the Democrats believe that a deal cannot be made, and they want it on the record that they offered a plan that was rejected.  However, even if the White House is on board, we don’t expect the Senate to necessarily agree.

• The President has signed a spending bill that prevented a government closure.
• The Fed has announced its restrictions on bank buybacks, and dividends will remain in place for Q4.
• The ECB has indicated it might follow the Fed in allowing inflation to temporarily overshoot its target. The Fed’s mandate was less clear than the ECB’s, which has treated 2% as an inflation ceiling.  We still have doubts that the ECB will, in practice, allow inflation to overshoot for any significant length of time.

Economic and market news: 

• In a recent AAW, we noted the drop in 65-year-old+ labor participation. Since we wrote that report, there has been some recovery, but older workers have not fully returned, and we speculate that many of those who left the workforce due to the virus won’t be back.  The disruptions to daycare may lead to lasting changes in the female workforce as well.  As schools close and daycares are affected, parents are being forced to stay home and, in some professions, this means underemployment or unemployment.  The effect may be magnified for African-American women.
• Although the overall economy is clearly recovering, the pandemic is accelerating changes in the economy. One area being especially affected is retailing.  Store closures are rising rapidly as consumers opt for home delivery and people are reducing their shopping trips.  We expect this trend to have an adverse effect on commercial real estate as well.
• The backbone of the shadow banking system is the money market. In fact, Perry Mehrling, a leading economist on the shadow banking system, defines it as “the money market funding of capital market lending.”  The problem from this structure for the financial system is that there is no “deposit insurance” for money markets.  Before deposit insurance, bank liabilities were “runnable,” meaning that if depositors demanded their cash, the bank can’t meet its obligations and can fail.  In theory, money markets shouldn’t need insurance.  Since they don’t guarantee a stable NAV, a fund under pressure should simply “break the buck.”  But in reality, the industry has always sold itself as a high-yielding alternative to bank deposits, so a NAV of less than $1 leads to a cascade of trouble.  Regulators are starting to realize that the reforms put in place after the Great Financial crisis probably failed to fully protect the system.  It looks to us like there are two alternatives; the first is to create deposit insurance for the money market, likely ending its yield advantage, or, second, make it abundantly clear to investors that the NAV isn’t set at $1 per share.
• Another issue lurking on the policy front is the potential for asset inflation. Monetary policy works through the financial system; until the Fed is directly sending money to households and businesses, the way monetary policy works is to lift asset prices.  We constantly respond to questions about inflation; rising price levels is a legitimate concern, but it is misplaced in the near term.  Monetary policy stimulus under conditions of high inequality tends to lead to asset, not goods, inflation.  One way of thinking about inflation is that it is a measure of the relative power of capital compared to labor.  When capital dominates, inflation tends to be tame.  We have been arguing, for some time, that a flip from efficiency to equality is on the horizon.  But, until it actually arrives, policy stimulus is bullish for financial assets, which creates its own problems.  Since we view it as politically impossible for the Fed to raise rates because the P/E is too high, asset markets will likely remain well supported.
  • One factor that may accelerate the equality trend is the political discussion of income taxes.
  • The Fed’s Main Street lending program has the potential to facilitate direct lending to the economy. However, it hasn’t exactly been rapidly adopted yet.  Banks are blaming the Fed’s credit conditions for the lack of lending.

China news:

• A House report indicates that U.S. spy agencies are still focusing on counterterrorism instead of great power competition with China. This has been an issue for the military as well.  After 9/11, the efforts of security forces were on preventing terrorist acts.  With the rise of China, we have seen the military shift its posture; this is why the Middle East will soon be on its own.  The House GOP has released its own recommendations to oppose China, although it is notable that there is a high level of bipartisanship on this issue.  As a side note, there is clear evidence that having an external enemy tends to lead to bipartisanship.  Perhaps the path out of our current political turmoil is tensions with China.

(Source:  Rosenthal and Poole)

This chart shows the degree of partisanship in Congress.  The higher the reading, the greater the level of partisanship.  Although partisanship began to fall during the Progressive Era and the Great Depression, it remained low for most of the Cold War.  The end of the Cold War saw a rapid rise.

• As the U.S. continues its withdrawal from the world, China is steadily increasing its influence. This influence has started to emerge at the U.N.  Beijing has steadily increased its participation at the U.N., putting its bureaucrats in more positions.  Essentially, the U.N. is morphing from a body designed to promote democracy and human rights to one doing the bidding of China.
• SoS Pompeo is traveling to the Far East beginning October 4. Although it is not on his official agenda, a detour to Taiwan would trigger a major backlash from Beijing.  China has been increasing tensions with Taiwan for much of the past two years.
• China has also been steadily acquiring companies in Europe. Beijing has successfully disguised state involvement in these purchases, increasing China’s influence in Europe.
• Commentators are noting that surveillance in China has reached the point where comparisons to North Korea are being made. This situation is especially true in areas like Xinjiang.
• China’s Semiconductor Manufacturing International (SMICY, USD 11.68) is stockpiling chip equipment in response to U.S. export restrictions.

COVID-19:  The number of reported cases is 34,010,539 with 1,014,995 deaths and 23,671,237 recoveries.  In the U.S., there are 7,234,327 confirmed cases with 206,963 deaths and 2,840,688 recoveries.  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 weekly Axios state infection map shows an increasing number of states reporting rising cases.

Virology: 

• Scientists have been gathering information about COVID-19 since it arrived in January. As data is being gathered and analyzed, one of the factors that has emerged is how broadly the virus affects some of those infected.
  • Some patients exhibit symptoms of malaise that endure, such as fatigue, a lingering cough, shortness of breath, headaches, etc. Damage to the heart, lungs, and brain have been reported across all age brackets.  Blood clotting has been common, especially micro-clotting of capillaries.  Myocarditis, inflammation of the heart muscle, has been reported in patients even with mild cases.  This means the medical system may have to deal with longer-lasting effects from the virus.
  • The virus tends to be most deadly for the elderly, who often have comorbidities. One of the more intriguing developments is that genetic abnormalities appear to affect how patients react.  Some people have genetic defects that restrict interferons, which is part of the immune response.  COVID-19 appears to be more lethal for these patients.  If there turns out to be a genetic marker that could easily be identified, it could allow for governments to more easily protect those most vulnerable and, at the same time, avoid broader lockdowns.
• At the same time, there is growing speculation we may be closer to herd immunity than initially suspected. The basic math of epidemics suggests that herd immunity isn’t achieved until 60-70% of the population is infected.  But that calculation assumes a homogenous population and random contacts.  In a heterogeneous population, there may be some degree of innate immunity, meaning that the population is probably not homogenous.  Broad surveys of blood samples suggest that some people may already have some degree of immunity due to exposure to other coronaviruses.  These developments are potentially good news  It doesn’t mean the virus will no longer be with us, but it will likely become more manageable over time even before a vaccine is developed.
• Nursing homes have been an epicenter of fatalities. A government program is now helping these facilities by providing rapid rapid test equipment.
• Although governments began the process of reshoring due to the pandemic, progress on this front has been remarkably slow.
• Russia is close to approving a second vaccine.

Odds and ends:  Technology regulation is another bipartisan issue.  Although the issues are somewhat different for the right and left, both agree that the sector needs to be regulated more strictly.  The left is a greater threat to investors in technology, as its regulation looks to break up the sector through antitrust.[1]  Google (GOOG, USD 1465.60) says it will spend $1.0 billion to pay news providers, with the preliminary focus on Europe.  Tech news aggregators have tended to oppose paying providers, but they may have realized that (a) the providers may cease to exist because the tech firms have mostly destroyed their business model, and (b) the media can affect sentiment and giving money to the providers may lead to more friendly coverage at some point.  Putin has decided to close Russia’s budget gap by taxing the country’s oligarchs.  The leaders of Russia’s major firms are not taking the decision well.

[1] Actually, the history of antitrust actions breaking up large firms for the most part turns out to be favorable to investors.  Large firms are hard to manage well, and when a big firm is broken up, the resulting companies often do very well, unlocking shareholder value.  The breakup of Standard Oil is a classic example.

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[1] Actually, the history of antitrust actions breaking up large firms for the most part turns out to be favorable to investors.  Large firms are hard to manage well, and when a big firm is broken up, the resulting companies often do very well, unlocking shareholder value.  The breakup of Standard Oil is a classic example.