Fasten Your Seatbelts

by | September 28, 2020

This past week, global equities dipped, extending their historic pattern of weak Septembers. Month-to-date the US S&P500 has given back -5.8%, the Nasdaq -7.3% and Germany’s DAX -3.7%. The Nikkei has eked out a 0.3% gain thus far this month.

Investors are again taking cover in ‘defensive growth’. In recent days, Information Technology, Utilities and Consumer Discretionary sectors have outperformed, while Energy, Basic Materials, Financials and Industrials have lagged. Bond yields are edging lower and the dollar has recouped some lost ground in foreign exchange markets, as is typical when investors shun risk.

Concerns about elevated Covid-19 infection rates in Europe, the UK and the US are partly to blame for renewed investor jitters. So, too, is the growing realization that political impasse in the US makes it unlikely that fresh fiscal stimulus can be adopted before the November 3 elections, perhaps not before year end. Meanwhile the latest weekly jobless claims of 870,000 serve as a reminder that, after a mid-year bounce, the US and global economies are softening into year end. Major brokerage houses have recently downgraded their fourth quarter global GDP forecasts.

An additional source of concern, reflected in a November ‘hump’ in implied equity volatility prices, is the specter of a contested US Presidential election. November index volatility futures prices are nearly 20% higher than either current readings or those in Q2 2021. 

We have noted before that markets could be subject to ‘whipsawing’, given unpredictable shifts in investor sentiment and quick reversals between cyclical and defensive strategies. That remains our concern.

There is little reason to expect a durable improvement in investor sentiment in the coming few months. Earnings momentum remains poor and the pre-announcement period ahead of the Q3 reporting season will contain many disappointments. Uncertainty will hinder the ability of company management to offer upbeat forward guidance. Macroeconomic data will be, at best, uneven, and more likely will reveal flagging activity. As the weather cools in the Northern Hemisphere and people spend more time indoors, Covid-19 infection rates are likely to climb. Lastly, if public polls continue to show a stable lead for former Vice President Biden, President Trump is likely to intensify his (false) claims of voter fraud, increasing concerns about what a ‘peaceful transfer of power’ might look like.

This week, the focus will be on jobs and politics. Friday’s US unemployment report looms as the last before the November 3rd elections. Despite strong job gains in recent months, the rate of employment growth is slowing. Last month, 1.4 million jobs were added to US payrolls, below the 1.8 million forecasted by the consensus of economists. In September, the consensus expects an increase of 865,000. More important for both the economy and the elections is the fact that only about half the jobs lost since the outbreak of the pandemic have been filled. Elsewhere, Chinese manufacturing and non-manufacturing surveys are expected to tick higher, fueled by domestic investment and a gradual re-opening of China’s economy.

Tuesday sees the first presidential debate (the second and third follow on October 15 and 22, respectively). Despite increased campaigning, advertising and a flurry of key political events (among them, the filling of a Supreme Court vacancy, social unrest and debates over fiscal stimulus), public opinion polls and political futures markets show very little movement among all or even likely voters. Nationwide, former Vice President Biden enjoys a steady upper-single digit lead in the polls. He also holds an unchanged lead based on likely electoral college outcomes. According to polls of polls and probability analysis conducted by FiveThirtyEight, Biden’s chances of being elected are presently 77%, up slightly from the period just before the party conventions. The University of Iowa political futures market puts Biden’s odds of wresting the presidency at 74.5%, virtually unchanged since he wrapped up the Democratic nomination in June.

Confronted by the polling numbers, President Trump’s political response has been to assert election fraud, which according to most political observers is unsubstantiated. In doing so, Trump aims to simultaneously motivate turnout by his base and suppress voting otherwise. Creating doubt that mail-in ballots will be counted, or are reliable, could reduce turnout, particularly among Democrats who historically are more likely to vote by mail. And installing a new Supreme Court Justice, tilting the conservative majority to 6-3, increases Trump’s odds that if a contested outcome is decided by the high court, the decision will be in his favor.

From the perspective of financial markets, uncertainty depresses risk appetite. And while a contested election should be resolved by late December, if the outcome is deemed illegitimate by a large number of Americans political risk could become chronic. What might happen, for instance, if in contrast to former Vice President Gore’s decision to accept the 2000 Supreme Court ruling, nominee Biden and large parts of the Democratic Party were to disavow a high court outcome tinged by a conservative majority as well as by attempts already underway to disenfranchise US voters?

For investors, who have ridden a wave of strong equity returns since April, underpinned by massive monetary and fiscal stimulus, the final quarter of 2020 looks like a much bumpier ride. Flagging growth, depressed earnings, the risk of rising Covid-19 infection rates and unprecedented US election risk are forces that not even the Federal Reserve may be able to offset.

Fasten your seatbelts.

About the Authors

Larry Hatheway

Larry Hatheway has over 25 years experience as an economist and multi-asset investment professional. He is co-founder, with Alexander Friedman, of Jackson Hole Economics, LLC, which offers commentary and analysis on the global economy, policy & politics, and their broad implications for capital markets. Prior to co-founding Jackson Hole Economics, LLC Larry worked at GAM Investments from 2015-2019 as Group Chief Economist and Global Head of Investment Solutions, where he was responsible for a team of 50 investment professionals managing over $10bn in assets. While at GAM, Larry authored numerous articles on the world economy, policy-making and multi-asset investment strategy. Larry was also the lead investment manager for various mandates, funds and an actively managed multi-asset index. Larry also served on the GAM Group Management Board, was Chairman of the GAM London Limited Board and served as member of the GAM Investment Management Limited Board. Larry was also Chairman of the GAM Diversity & Inclusion Committee. During his tenure at GAM, Larry was based in London, UK and Zurich, Switzerland. From 1992 until 2015 Larry worked at UBS Investment Bank as UBS Chief Economist (2005-2015), Head of Global Asset Allocation (2001-2012), Global Head of Fixed Income and Currency Strategy (1998-2001), Chief Economist, Asia (1995-1998) and Senior International Economist (1992-1995). During his tenure at UBS, Larry was also a standing member of the UBS Wealth Management Investment Committee. While at UBS, Larry worked in Zurich, Switzerland, London, UK (various occasions), Singapore and Stamford, CT. At both GAM Investments and UBS Investment Bank Larry was widely recognized for his appearances on Bloomberg TV, CNBC, the BBC, CNN and other media outlets. He frequently published articles and opinion pieces for Bloomberg, CNBC, Project Syndicate, and The Financial Times, among others. Before joining UBS in 1992, Larry held roles at the Federal Reserve (Board of Governors), Citibank and Manufacturers Hanover Trust. Larry Hatheway holds a PhD in Economics from the University of Texas, an MA in International Studies from the Johns Hopkins University, and a BA in History and German from Whitman College. Larry is married with four grown children and a loving Cairn Terrier, and resides in Wilson, WY.

Alex Friedman

Alex Friedman is the co-founder of Jackson Hole Economics, LLC, a private research organization which provides analysis on economics, politics, the environment and finance, and develops actionable ideas for how sustainable growth can be achieved. Friedman is a senior leader with two decades of experience growing and transforming organizations in the financial and non-profit industry. He was the CEO of GAM Investments in London and chairman of the firm’s executive board. Previously, he was the Global Chief Investment Officer of UBS Wealth Management in Zurich, chairman of the UBS global investment committee, and a member of the executive board of the private bank. Before moving to UBS, Alex Friedman served as the Chief Financial Officer of the Bill & Melinda Gates Foundation. He was a member of the foundation’s management committee, oversaw strategic planning, and managed a range of the day-to-day operating functions of the world’s largest philanthropic organization. Friedman also created the foundation’s program-related investments group, the largest impact investing philanthropic fund in the world. He started his career in corporate finance at Lazard. Friedman served as a White House Fellow in the Clinton administration and as an assistant to the U.S. Secretary of Defense. He is a member of the board of directors of Franklin Resources, Inc. (Franklin Templeton), a member of the Council on Foreign Relations, Chairman of the Advisory Board of Project Syndicate and a board member of the American Alpine Club. Friedman is a regular contributor to a range of newspapers and thought leadership groups and is also the author of Babu’s Bindi, and The Big Thing, both children’s books. He is an avid mountaineer and rock climber and led the first major climb to raise money for charity through an ascent of Mt. McKinley. Friedman holds a JD from Columbia Law School, where he was a Harlan Fiske Stone Scholar, an MBA from Columbia Business School, and a BA from Princeton University.

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