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

[Posted: 9:30 AM EST] | PDF

Good morning.  Equity markets are moving higher despite the continued lift in interest rates.  Our coverage begins with affairs in Washington, the impeachment, and policy.  China news comes next.  There is an update on the breadth of stock purchase bans and a policy declassification.  The pandemic coverage follows.  The Fed released the Beige Book yesterday; we offer a recap.  EU and post-Brexit updates are next, and we close with a paper that seems to come from “Captain Obvious.”  Being Thursday, the Weekly Energy Update is available. We discuss why oil prices and oil equities have diverged.  The current Asset Allocation Weekly is available, too.

Impeachment and policy:  Yesterday, the House approved the articles of impeachment, making President Trump the only president to be impeached twice.  The articles will move to the Senate for a vote, but it doesn’t look like Majority Leader McConnell (R-KY) will bring them to the floor before the inauguration.  Here is our take:

• Despite the turmoil, equity prices continue to lift higher. It doesn’t appear that equities are worried about the fallout from the impeachment or future Biden administration policy.  Monetary policy is still the focus (see below).
• As regular readers know, we focus more on trends than political figures. This is just the opposite of the media.  Nothing sells ad minutes better than villains and heroes.  However, in our analysis, focusing on personalities misses the underlying trends.  We have framed not just the Trump administration, but the Obama administration too, as reflecting the desperation of the working class.  Many of Obama’s supporters in 2008 thought they were getting Bernie Sanders (I-VT) and are still bitterly disappointed that he turned out to be mostly a center-left establishment president.  Right-wing populists have enthusiastically supported President Trump, but his support for that group has been mixed.  The tax cuts did little for them, and while the regulation rollbacks were small-business friendly, regulations tend to protect labor over capital.  Immigration restrictions, on the other hand, were popular.
  • We are seeing the GOP split between the establishment and the populists widen. There are widespread corporate withdrawals of funding support for Republicans seen as supporting the events last week.  We view these decisions as an attempt by the establishment wing of the GOP to retake control of the party.
  • We have been arguing for some time that part of what is going on is a realignment of political parties in the U.S. If the GOP establishment fails to gain some semblance of control, we would not be surprised to see long-time conservatives either become independents (a breakup similar to the Whigs in the 1850s) or become Democrats.
  • The Democrats have their own establishment/populist split but manage it through divide and conquer. The leadership uses identity to play off one populist group against another to stay in power.  That strategy is working for now but may not work indefinitely.
  • Overall, the focus on impeachment is due, in part, to the idea that Trump is a singular figure, and if he is banished, his followers will no longer be a threat. This idea is probably misguided.  Right-wing populists will find another champion.
• For investors, the party realignments do bring some risk. For example, it is getting very difficult for some industries to engage in long-term investments because the regulatory landscape is no longer consistent.  Uncertainty about tax rates changes behavior, even if the tax rates themselves don’t change.  But, for the next few years, we are looking at an environment of liquidity expansion under conditions of high income inequality, which means ample excess liquidity that will need to find a home, with most of the cash sitting on the balance sheets of the wealthy.  This is the topic of discussion for tomorrow’s Asset Allocation Weekly.
• The change in Senate leadership means that Senator Sherrod Brown (D-OH) will become chairman of the banking committee. Expect a couple years of large bank executive grilling.
• One complication that comes from impeachment is that it will reduce the available policy “bandwidth” to work on stimulus and other policies. President-Elect Biden will unveil policy proposals today.
• The merger landscape is changing. Visa (V, USD, 209.35) announced it was abandoning its plans to purchase Plaid.  The DOJ opposed the merger.

China:  U.S. investors get a reprieve on major Chinese tech stocks, and U.S. policy on the Far East is declassified.

• Americans will be able to continue to hold shares of Alibaba (BABA, USD, 235.30), Tencent (TCHEY, USD, 78.43), and Baidu (BIDU, USD, 236.94). The decision emerged after the DoD and Treasury came to an agreement.  The former was worried that these firms assisted China’s military, while the latter was concerned that banning such high-profile companies would lead to unnecessary market disruption.  In the end, the Treasury did prevail.
• The incoming administration named Kurt Campbell to be the Asia tsar[1] to coordinate Asia foreign policy. Campbell is a high-profile appointment; here is a report he wrote for Foreign Affairs, where he discusses his view of the region.  Although there is much talk about working with allies and framing the region in a way similar to Europe after Napoleon, this model probably doesn’t work very well.  Outside of China, the countries in the region tend to treat geopolitics on a transactional basis.  In other words, they like the Cold War tradeoff of being able to run mercantilist trade policies with the U.S. and not have to pay for their own security in return for policy fealty to Washington.  In the absence of the Cold War structure, we anticipate the nations of the region will try to get favors from both the U.S. and China.
• The U.S. declassified its Strategic Framework for the Indo-Pacific The framework has been in place since 2018 and reflects analysis from Australia on containing China and managing North Korea.  The existence of such a document isn’t a huge surprise, but the decision to declassify it reduces the ability of the next administration to deviate significantly from it.  After all, if nations have been using this framework for the past couple of years, it will be a problem to change it radically.
• China continues to clamp down on Hong Kong. The latest is that authorities are considering banning anyone with a British National passport from holding public office.  The U.K. makes it easy for such holders to move to Britain, giving Beijing less control over these passport holders, so denying them political office ties officials closer to China.
  • Beijing is expanding its digital crackdown on dissidents.
  • Ted Hui made an escape from Hong Kong with the help of two young Danes.
• The U.S. has banned cotton and tomato products from Xinjiang.
• As we note below, China’s exports continue to rise at a torrid pace.
• We have been eying Singapore as a destination for foreign companies leaving Hong Kong. The North Face (VFC, USD, 85.57) is the latest to move.

COVID-19:  The number of reported cases is 92,462,193 with 1,981,097 fatalities.  In the U.S., there are 23,078,350 confirmed cases with 384,784 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 CDC reports that 29,380,125 doses of the vaccine have been distributed with 10,278,462 of first doses injected.  The R_t data shows 20 states are showing a reading less than one, with New Hampshire having the best results and Washington state with the worst.

Virology

• The Chinese New Year is less than a month away (February 12, the year of the Ox) and Chinese officials are warning citizens to avoid “unnecessary” trips. The Chinese New Year usually brings a mass migration as urban dwellers travel back to the countryside to meet with relatives.  Last year, this travel increased the spread of COVID-19.  China is experiencing another outbreak at what may be the worst possible moment.
• In vaccine news:
  • The Sinovac (SVA, USD, 6.47) vaccine hit a setback when reports from a Brazilian study showed much lower efficacy than the current Western vaccines. The Chinese vaccine was slated for the emerging world, so this news is a disappointment for that region.
  • The Johnson & Johnson (JNJ, USD, 157.89) single-shot vaccine is expected to release trial results over the next two weeks, but initial reports are favorable. There is great hope riding on this vaccine because its distribution will be much less complicated than the current ones.  As noted, it requires just a single dose and only needs refrigeration, not freezing.  However, there are worries about production capacity.
  • In the U.S., distribution facilities are grappling with a problem—if you thaw the current vaccines, they will spoil if they are not used. Thus, if fewer patrons than expected come in for vaccination, the distributors either must let the vaccines spoil or scramble to distribute doses, sometimes to groups not in the
  • Firms are starting to pay workers to take the vaccine.
  • Australian researchers are concerned about the effectiveness of the AstraZeneca (AZN, USD, 50.88) vaccine.
  • Russia is having vaccine distribution problems, too.
• Over time, what will become of COVID-19? Scientists expect it to become similar to a childhood common cold.
• In related news, Asian poultry farmers report an outbreak of the H5N8 bird flu.

Beige Book and the Fed:  The Beige Book offered few surprises, although it did have one interesting observation.  Housing patterns are showing stronger economic activity in the suburbs, with less in the cities.  Chair Powell will be speaking today; we will be watching for any clues on long-term interest rates.

The EU and Brexit:  Here are the highlights.

• By the weekend, Germany’s CDU will have a new party leader and chancellor. Angela Merkel will be stepping down.  She has been the dominant leader of not just Germany but also the EU, and something of a power vacuum will be in place for a while.  Although this vote will lead to Merkel’s retirement, it remains unclear if the new party leader will also be chancellor.
• It looks like Italy’s government is about to fail as former PM Matteo Renzi has pulled his party out of the coalition. What’s odd about this decision is that it seems to have nothing to do with policy.  Instead, it’s personal animosity.
• Details of the EU deal with China are starting to dribble out. The agreement apparently allows Chinese nationals to move to the EU to work on investment projects.  The export of Chinese labor to foreign investment projects has been a point of contention for some time.
• As snags over Brexit abound, the EU negotiator suggests that this will be the new normal. We are already seeing EU logistical firms suspend deliveries to the U.K.  Seafood exporters in the U.K. are finding that their exports are being held up, leading to serious trade disruptions.
  • The Dutch are looking to take financial market share from London.

And, on a lighter note: A study in the journal Economics and Human Biology proves something most of us have suspected for some time—recreational marijuana use leads to higher junk food consumption, a fact the Girl Scouts have already noted.

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[1] We await to see if a Russia tsar is named.