Wednesday, Nov 25

For all the great news in recent weeks on vaccines, it’s important to bear in mind that by themselves they are probably not the cure-all that some may hope for, says James Ferguson from the Macro Strategy Partnership. But, as he explains his his latest research, they don’t need to be, if they can serve as cover for a simpler solution to the over-sensitive PCR test that he argues has exaggerated the nominal number of cases being reported. If governments around the world can improve the whole testing method, it will pave the way for a more aggressive re-opening of the economy. Also today, in our continuing coverage of the healthcare/pharma sector Empirical Research say that it’s ironic that an economic crisis sparked by a health emergency has so far had little effect on the valuation of the health care sector, but that may be about to change. They highlight why conditions are ripe for consolidation in the biopharma sector and how a new set of filters based on intellectual property can identify the likely winners and losers better than traditional metrics. Elsewhere, Alpine Macro examines what a return to relative normality means for gold prices, Longview Economics sets out why the eurozone economy is likely to improve markedly next year, and Deutsche Bank lays out the implications for US economic policy of Janet Yellen’s nomination for Treasury Secretary.    
  1. COVID-19 testing reopening the economy Macro Strategy Partnership

    1. The Vaccine: Back to life, back to reality

    James Ferguson at Macro Strategy Partnership says even if Covid-19 has perhaps not turned out to be quite as deadly as the epidemiologists initially assumed, positive PCR tests, combined with doom-laden media coverage, have turned what might otherwise have been a relatively mild medical crisis into a severe political and economic one. This is an important, and sometimes uncomfortable, question. It’s seen to be questioning science, inviting derision. But it begs the question, is there a better, more effective test, without destroying the economy, and will government’s seize the opportunity? This is what Ferguson seeks to address in this first note of a two-part series. He says that

    vaccines by themselves probably aren’t the cure-all that some may hope for; but they don’t need to be if they can serve as cover for a simpler solution to the over-sensitive PCR test, that has raised such alarm and caused so much economic contraction. Ferguson argues that the UK government, and many others around the world, have an opportunity to use newly developed vaccines as a cloak, under which they can bring in far less sensitive, and arguably more accurate and precise, coronavirus tests. Ferguson says it would be the vaccine that would be taking the credit for much reduced COVID-19 incidence, rather than the reduced sensitivity of the tests themselves, which would be the real cause, and this would open up the way for a swift re-opening of the economy. It could be that authoritarian power has gone to the heads of those wielding it and government might not take this open-goal opportunity to escape restrictions, Ferguson warns. However, he says the opportunity for investors is great, and the next few months should reveal all. Part II of this note will explore the UK’s upside potential if the opportunity is taken to fully re-open the economy.

  2. biopharma healthcare M&A Empirical Research Partners

    2. Biopharma – A coming M&A boom?

    One of the ironies of the pandemic is that valuations of health care stocks haven’t seen much of a reshuffling, despite being at the epicentre of the current global crisis, writes Rocky Cahan at Empirical Research Partners. Unlike consumer discretionary or industrial stocks, where investors are convinced the pandemic has created a new set of winners and losers, healthcare stocks have largely clung to the status quo, he says. This may be about to change. Cahan reckons M&A activity will be that catalyst to that change. His key indicator for this is the spread between the free cash flow yield of the health care sector and the Baa corporate bond yield, a proxy for funding costs, which now exceeds 100bps. This is a very rare occurrence, he says, in fact it’s only the fourth time in almost 70 years that the spread has been positive. Unsurprisingly, says Cahan, the volume of deal-making in health care has been influenced by the spread, with more deals occurring when free cash flow yields are high relative to funding costs. Furthermore, the deals announced when spreads are favourable have tended to add value for the acquirer’s shareholders, he adds, which is noteworthy because the average acquisition in the US has long been value destructive for the acquirer.  Cahan says one way to screen for biopharma companies that might benefit from the favourable environment for M&A fuelled growth is to look for those with lots of in-process R&D, an asset that is created when a firm acquires a drug that hasn’t yet made it to market, while another is new product approvals-to-R&D stock, a measure of R&D efficiency that rewards firms that can do more with less. The number of recent patents granted relative to a company’s asset base and the price one pays for its capitalised R&D spending have also been worth keeping an eye on, he adds. In fact, says Cahan, all four factors have been far more effective than traditional measures of financial performance for sorting future winners and losers.
  3. gold Risk sentiment Alpine Macro

    3. What about gold?

    With the “return to normal trade” having become the dominant trend in financial markets, investors are increasingly questioning whether they should continue holding gold says Chen Zhao at Alpine Macro. He’s just published a special report assessing the prospects for bullion, and says his sense is that with stock prices rising and the investment world beginning to look beyond the current Covid-19 crisis, headwinds for gold will continue to gather strength. Nevertheless, Zhao is doubtful that gold will enter another major bear market. The problem with gold, he says, is not potential steep capital losses, but opportunity cost relative to other investment alternatives, but as he points out, there is still a fair amount of slack built into real rates. to justify owning gold, even if rates do back up. So while some of the hoy money go out of gold, Zhao recommends investors keep only enough gold exposure as a low-cost portfolio hedge against unforeseen risks, and if 2020 has taught investors anything, they will always be lurking.
  4. European recovery Global growth Longview Economics

    4. Eurozone – in the shadow of the global boom

    Like much of the West, the eurozone economy faces a number of near term challenges, says Harry Colvin at Longview Economics. In particular, he says, major economies are currently locked down; leading indicators have started to roll over; and credit conditions, despite easing earlier this year, have once again tightened up. According to Colvin, however, in the first half of next year Europe’s growth outlook is distinctly positive, given both strong monetary and fiscal support and a backdrop of reaccelerating global economic and trade growth. Indeed, he says while domestic policy is important, the eurozone economy remains primarily a play on global growth and in that respect the availability of highly effective vaccines – expected from the start of 2021 onwards – is likely to spark a US/global economic boom next year. As such, Colvin says while some of his key traffic light indicators for the eurozone are currently generating ‘amber’ or even ‘red’ signals, their message is likely to significantly improve next year.
  5. fiscal policy Trade US Treasury Secretary appointee Deutsche Bank

    5. How things will look different under Janet Yellen

    Deutsche Bank’s Chief Economist Peter Hooper reckons Janet Yellen’s nomination as US Treasury Secretary sends a clear message that Joe Biden is aiming for a centrist to moderately liberal economic programme, and that in Yellen, he has tapped a pragmatist, a skilled economist, and an experienced financial and regulatory policymaker. Hooper says the Biden Administration will take office with the US economy very possibly weakening as a result of a strong second wave of Covid-19 in combination with the expiration of much of the fiscal support afforded by the Cares Act in March. Her first job will obviously be to find ways to deal with likely near-term increases in unemployment, mortgage and other debt foreclosures, and an increasing skew in the incidence of economic and financial pain toward lower-income households. But most significantly, Yellen will be a strong advocate of fiscal policy, and the role that it plays in supporting aggregate demand and counteracting persistent economic inequities that have been exacerbated by this crisis. Also, one can expect a much more collaborative relationship between the Treasury and the Federal Reserve, and on trade Yellen should be fully supportive of reversing tariffs imposed by the Trump administration, understanding as she does that tariffs are not an effective tool for addressing trade or current account imbalances.