Your weekly economic update from the team at FXD Capital
This week was predominantly focused on events in the U.S. We started off slowly with a public holiday for Martin Luther King Day on Monday but gathered momentum with Treasury Secretary-Elect Janet Yellen laying out her stall in the Senate and of course the inauguration of Joe Biden as the 46th President of the U.S. The week ended with some European flavour with Thursday’s ECB rate decision. We also got a taste of the U.K. with Retail Sales this morning.
Janet Yellen doesn’t seem to have lost her “silky” oratory skills since hanging up her spurs upon retiring from the Chair of the Federal Reserve in 2018. Apparently, she has been building up a considerable personal cash war chest by speaking on Wall Street in a private capacity in the interim period. Wall Street must really respect what she has to say, Janet is lots of things but riveting she is not. I listened attentively with the aid of some strong black coffee.
She said the U.S. will not pursue a weak dollar for competitive advantage and that, “the value of the U.S. dollar and other currencies should be determined by markets” while avoiding to clearly back a strong dollar policy. On China, the U.S. will retain hard-line policies to tackle what was described as “abusive” trade and economic practices. The U.S. hard line on foreign policy is clearly not going to disappear. She also supported a big fiscal stimulus to speed up the recovery at a time when interest rates are low –and are likely to stay low for a long time. To secure low financing costs, she said she is willing to look at 50-year bonds (the longest maturity for bonds issued by the U.S. Treasury is currently 30 years). This was all seen as positive for the reflationary trade and edged U.S. Treasury yields slightly higher.
An ultra-long bond is not an entirely new topic for the Treasury market, as outgoing Treasury Secretary Steven Mnuchin has explored that possibility over the past couple of years, but failed to pull the trigger due to the lack of interest from market participants. Although it does sound like a great idea to lock in historically low-interest rates to save money for taxpayers, there does not appear to be sustainable demand for ultra-long duration from a broad investor base. “Right now, short term, I feel that we can afford what it takes to get the economy back on its feet, to get us through the pandemic,” Yellen said at the hearing. Her remarks met with some resistance from Republican senators, who were sceptical about the details on Biden’s proposed economic measures.
Given the political constraints in Washington, it’s hard to see the final package reaching the full $1.9trn. Certain portions of the proposal, such as the higher minimum wage ($15 per hour), will struggle to gain the necessary votes.
The inauguration once again proved to be some spectacle. While Donald Trump flew off on Air Force One (you can bet that plane was returned with an empty petrol tank) to the music of “I did it my way” by Frank Sinatra, Joe Biden bounced into office with support acts such as Lady Gaga, J. Lo and one assumes to keep the opposition voters happy, a dose of Garth Brooks. To me, the whole thing felt more like an outdoor episode of “American Idol” than a serious political event. Biden certainly has his work cut out for himself. The market seems to be reacting to the stimulus package like this; The bigger the package the more inflationary pressures down the line and thus treasury yields higher. Let’s see how that works out.
The ECB did not reveal any surprises on Thursday. President Lagarde mentioned the reduced downside risk to the economy and the trade-weighted EUR being below its 6-month average which doesn’t suggest any imminent action. She also noted that it may not have to spend the entire Pandemic Emergency Purchase Programme (which they topped up by €500bn last month).
This morning we had U.K. Retail Sales. Retail sales volumes rose 0.3% in December, far less than economists’ expectations in a Reuters poll for a 1.2% increase. For 2020 as a whole, retail sales were down 1.9% – the biggest calendar-year fall on record. Sterling fell slightly against the dollar and the euro following the weaker-than-expected retail numbers.
Moves on the currency markets during the week were relatively muted. The dollar is on the back foot a tad. For those of us that like to pretend to be options savvy, one interesting observation is that the FX Options market on the USD Index (USD versus a basket of currencies) suggests that the dollar spot rebound that we saw at the beginning of this week may be in its final stages. The spread between one-year and one-month risk reversals, a sometimes useful gauge of market sentiment, has again turned negative – a pattern that has preceded a fall in the spot market several times since September.
I was interested to read a piece during the week on the initial stimulus cheques ($600) that have been sent out in the U.S. in early January. As mentioned Biden has now unveiled his $1.9trn relief plan. More than 150 million Americans would be eligible for a further $1,400 direct payment, on top of the $600 payments approved in December, if the same eligibility criteria were applied. The $600 cheque went to all those with annual incomes of less than $75,000, a lofty threshold in any one’s eyes.
Here is what happened; Penny shares volume mushroomed. Tesla added $130bn, IPOs doubled and options trading exploded. Coincidence? Maybe, though a lot of people doubt it. They can’t help noticing how tiny traders with money to spend keep turning up in the vicinity of almost every market spectacle these days. Now, more federal aid may be on the way and Wall Street pros are bracing for what comes next. The data suggest anyone who gets the boost is more likely to put it in the market than those who don’t. Across all income groups, recipients traded roughly 30% more in the first 10 days of January than at the start of December.
The sums would be hitting bank accounts at a time of full-blown mania in the market. Volume in penny stocks regularly tops 40bn shares a day lately, up six-fold from a year ago, with day traders venturing off-exchanges and into the speculative over-the-counter markets. The options market saw the second-busiest day ever for bullish equity calls this week. Goldman Sachs data show that a basket of retail-favoured stocks has surged 10% since the end of December, beating both the S&P 500 and returns on hedge-fund favourites by more than nine percentage points. It used to be that if you added money to the economy people went out and bought things. Now it seems to amplify what’s going on in the financial markets.
That’s about it for this week. Next week keep an eye out of U.K. employment numbers on Tuesday and U.S. GDP numbers on Thursday. The fun and frolics of Trump’s second impeachment in the Senate will be front and centre too. Good luck.
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