In today’s Macro Briefing, we again take a look at the big picture and identify which secular investment trends are likely to be thrown off course, and which are likely to be triggered in the wake of the coronavirus pandemic. MRB Partners warns which investing “manias” are set to fizzle out in the coming years and looks to identify the next big thing for investors, while Longview Economics explains that while gold and gold stocks may offer value in the longer term, their short-term prospects may not be so bright. Meanwhile, Cornerstone Macro sets out why, despite the market chatter, the Federal Reserve is unlikely to resort to negative rates and Ned Davis Research identifies just who is buying US corporate credit. Elsewhere, and following up from yesterday’s note where we highlighted views on the ratcheting up the ”strategic competition” between China and the US, we provide a fascinating panel discussion from View from the Peak that describes how neither China nor the US have covered themselves in glory during the pandemic, or taken the chance to consolidate their credentials for global leadership.
Substantive's Top Themes - Best of the Broker Notes
1. The world order post Covid-19
View from the Peak’s Paul Krake co-founded the US-China series last year as a vehicle for debate about the future of the economic, technological and diplomatic relations between the US and China. As part of a wide-ranging event two weeks ago, it hosted a panel on the likely effect of the Covid-19 pandemic on the world order. Participants, who included Jude Blanchette from CSIS , Yale Law School’s Mira Rapp Hooper, and Jessica Chen Weiss from Cornell University sought to address whether the pandemic would be seen years from now as an important inflection point in the history of great power competition, and in particular whether it would usher in a new chapter in relations between the US, China and the rest of the world. The panel explains the economic decoupling forced by the pandemic is likely to be a dry run for future relations, and act as an accelerant for the decoupling trend that was already under way. Before, they say, decoupling had been focussed on the tech sector, but now pharmaceuticals were also under the spotlight, and the trend is likely to spread across into other areas. What has been striking, says the panel, is the fact that a global health problem has been met with such adversarial and nationalistic reactions from both the US and China, both of whose leaders appear more concerned with domestic pressures than international relations. As a result, neither country has shown great global leadership or taken the chance to extend their soft power in the global community, they explain. As for US-China relations, they are certainly in the deep freeze, according to the panel, even if they have not quite yet developed into an aggressive contest. VFTP has kindly allowed us access to the full panel discussion here. If you have any further questions, click below to contact Krake directly.
2. Who’s buying corporates?
Following on from yesterday’s note from Schulte Research which described the indigestion in the US credit market caused by a deluge of fallen angel paper, Joseph Kalish at Ned Davis Research has set out to discover just who is buying US corporate debt. He notes that ever since the Federal Reserve announced the Primary and Secondary Corporate Credit Facilities on March 23, the liquidity and functioning of the corporate bond markets have improved, and companies have quickly taken advantage with corporations having issued over $540 billion of securities over the past eight weeks, or nearly $68 billion per week, compared to around $20 billion per week before the Covid-19 crisis. As to who is buying, clearly, says Kalish, many investors jumped in ahead of the Fed, with some intent on selling what they bought back to the central bank. However, he says, the really big buyers of corporate bonds are insurance companies, mutual funds and foreign investors. Furthermore, notes Kalish, overseas investors have even more incentive today to buy US corporate debt, with the Fed having slashed the fed funds rate to the zero lower bound and thus reduced currency hedging costs. NDR say that European and Japanese investors should therefore favour US debt on a currency hedged basis.
3. Negative rates in the US? Seven reasons why the Fed won’t go there, and what to trade if we're wrong
Roberto Perli and his team at Cornerstone Macro put outa couple of interesting and related notes this week in response to persistent market chatter that the Federal Reserve will take its target rate below zero. In the first, Negative rates in the US? Seven reasons why the Fed won’t go there (May 18), as the title suggests, he sets out why he believes it won’t happen. First and foremost, argues Perli, it wouldn’t do much good – after all why should the Fed go through the economic and political hassle of negative rates for an insignificant benefit compared to the problem. Furthermore, he argues, it is not clear that the Fed has the authority to go negative, while it would be politically tricky at precisely the wrong time and could undermine the plumbing of the US financial system. In addition, although they would deny it, Perli says other central banks that have experimented with negative rates have not met with resounding success, while there are other tools - such as forward guidance, QE, and yield curve control - that could produce similar desired effects on broader financial conditions. It may suit the Fed not to rule out negative Fed funds rates in order to preserve some policy ambiguity and keep as much downward pressure on longer-term interest rates as possible, but ultimately, he says, it won’t happen. In case he is wrong, or the market runs further with the “negative Fed” idea even if the central bank doesn’t ultimately go there, Perli has released a second note: What are the trades if we are wrong and the Fed goes negative? (May 19). In it, he studies what happened in Denmark, the eurozone, Switzerland, Sweden, and Japan when central banks went negative. The clear general pattern, says Perli, is that sovereign yields dropped only modestly and more so at the short end than the long end - that is, yield curves bull steepened. Perli’s best guess is to expect the same pattern in the US, should the Fed go negative, and for investors who believe in that possibility, he recommends long (possibly leveraged) positions at the short end or, more conservatively, bull-steepener tilts. Equity-wise, he adds, banks clearly wouldn’t do well.
4. The most overcrowded consensus trade – is it time to sell gold?
In the long term gold is an attractive hedge against the inflation that is likely to be generated by the monetary policy response to the coronavirus pandemic, says Chris Watling, CEO at Longview Economics, but in the near term – the next one to six months – he is growing increasingly concerned about being long gold and gold stocks. At the moment, he says, it is the most obvious crowded long trade in the market, highlighted by the fact that on futures markets speculative long contracts sit at an all-time high. But as Watling notes, markets are forward looking discounting machines, and one well known rule of thumb is that whenever a strong consensus forms amongst market participants, then it typically proves profitable to take the other side. In addition he points to the inability of many key cyclical indicators to rally in recent weeks, which highlights the likely lack of sufficient dollar liquidity in the global system. That, coupled with the consensus overweight positioning and sentiment in gold, raises question marks about the near term ability of gold to sustain its current continued upward momentum says Watling– and in the very least suggest a pause in the uptrend but perhaps more realistically some meaningful giveback of its gains in the next one to four months. Watling concludes that weakness in the gold price should foreshadow or correlate with weakness in both BITCOIN and weakness in the S&P500.
5. Mania profiling – what assets will be next?
MRB Partners’ Philip Colmar has written a fascinating note focusing on the defining themes – or manias – that dominate the investment world. The report outlines how the unwinding of the manias created over the past decade are likely to influence the performance of the major asset classes in the years ahead and looks at a few big-picture themes that have the potential for creating fresh mania candidates. Of course, says Colmar, COVID-19 has changed the global economic, policy and investment landscape at a breath-taking pace, and this will serve as the catalyst to end several of the mania trends that were already in place. He says that is likely to mean headwinds for government bonds and bond proxies in the years ahead, the fading of US and growth stock leadership, and underperformance of assets in weak-link economies that will be forced to de-lever. The pandemic will also accelerate and reinforces some existing themes, while the massive policy response will fuel fresh asset manias in the decade ahead, says Colmar. Some of these big picture themes, he says, for the next decade include: climate change, health products and solutions, transportation, blockchain and cryptocurrencies, and migration away from the major cities. More worryingly, adds Colmar, investors may have to brace themselves for increasing isolationism and a new Cold War.