In our last blog, we discussed the fact that, whether it was Trump or Biden for the win, there are no quick fixes for jump-starting the economy back to life. To recap we said, “both potential leaders will have their work cut out for them, and it won’t simply be a matter of finding demand or fiddling with interest rates. Instead, recovery is deeply entwined with public health policy, civil stability and leadership.”
With the market currently trying to weigh up the implications of the election outcome – including Trump’s continued contesting of his election defeat – now seems to be the perfect time for a discussion on the structures and macro trends impacting trades. Of course, the implications of the election have a part to play, but given Biden is not due to take office until mid-January, recovery will be governed by macro events until further notice.
CV-19 shows no sign of slowing
As we know, CV-19 has sideswiped the global economy; to the point that we are starting from a hole that is twice the depth of the GFC. The leisure and hospitality sectors, for example, are staring into an abyss during what is typically one of their busiest times of year.
What’s more, the pandemic is showing no signs of slowing – certainly not in the US anyway – with the social, health and economic implications yet to be determined. Naturally, Biden’s response in office to CV-19 has the potential to alleviate some of these systems but the speed at which change can truly occur is uncertain.
Macro moments will continue to drive policy
We don’t believe economic data defines price action, but we do know that it dictates policy, which ultimately drives markets, for example, tightening or loosening financial conditions via QT or QE. With the pace of economic recovery slowing, Biden will focus on driving change.
Unfortunately, however, the scope for policymakers to ease financial conditions is limited. In the US, there is no room to cut short-term rates and credit is extremely tight.
The story of the weak dollar continues
At the same time, the US dollar is closing in on its weakest levels in two-and-a-half years. If we’re right, we stand on the cusp of a new dollar cycle. The good news for US investors, who are frequently untrusting of overseas markets, is there are clear domestic winners in a weak-dollar environment.
However, if the dollar’s decline continues next year, the current CV-19 induced outperformance of US growth names looks even more unsupportable. At some point, overseas investors are going to start questioning the attractiveness of unhedged returns in these names.
The Fed has a choice to make
Unfortunately, the US deficit is considerable, bond demand is peaking, and yields are too low to attract sufficient private sector demand. That leaves the Fed with a stark choice – to allow US bond markets to clear at an economic rate or accommodate the fiscal spending by underwriting the bond market.
As we enter 2021, we believe the US economy will need fiscal help. Regardless of how you play it though, there will always be a loser. Biden will need to decide whether to gamble with stocks, the dollar or economic recovery itself. The combination of loose fiscal and monetary policy guarantees a very weak dollar with risks of a rapid decline.
Asia and emerging markets to the rescue?
It’s worth noting, these challenges are not unique – or even original – to the markets or to our leaders. There are many economists who theorise we are facing our equivalent of the 1918 Spanish flu, with a similar associated policy easing. This means, we might just be about to enter the analogue of the “Roaring 20’s”, with Asia and emerging markets playing a major role in the global economy this time around.
The result for developed nations will be a fresh slate – the flip side of the forces of laissez-faire economics from Reagan and Thatcher. What we know for sure is that Biden’s time in office, his economic and healthcare policies, and his leadership will all be put to the test as we enter 2021.