Around the World and Back Again

By January 31, 2020Weekly TGIF

A volatile week on Wall Street saw the Dow and S&P record their second consecutive weekly declines and erased all of the new year’s gains as January comes to an end. Stocks closed at the lows of the week as shorter-term traders did not want to be long going into the weekend. The drivers of the declines were many. I will outline them below. But remember, we have been way, way overdue for a sell-off since the relentless rally accelerated last Fall.

This was a hyper eventful week for the Market to digest. For so long, the Market had been ignoring issue after issue and kept rallying. That stopped this week. The coronavirus is getting the most headlines for the cause of sell-off, but earnings, impeachment, the economy, and the election are also playing a role. And I can’t forget about Brexit either. Planet Earth is a complex place. It sure was timely for another meeting with Ian Bremmer of the Eurasia Group, who is as smart as anyone on geopolitics. I saw him in Florida, which is where I am as I type. This is going to be another long one, so I hope I hold your interest and attention.

The outbreak of the coronavirus was clearly what triggered the sell-off. A global epidemic would be devastating. The reason it’s exploding is that China doesn’t have the health codes for food or hospitals to deal with such an event. It’s also occurring during their celebrated new year’s holiday. The virus is expected to shave over 1% from Chinese GDP. It could cut 0.5% to the US. This, with a US and global economy already slowing after 11 years of expansion. Travel, tourism and dining out in public places are sure to be impacted. The CDC declared it a state of emergency, but insisted the risk to Americans is still low. The longer it lasts, and worse it gets, the greater the impact. The Market is focused on the economic impact.

The US Economy grew at its slowest pace in three years. The American Consumer keeps spending, which is critical as it accounts for roughly 70% of economic activity. Keeping up this rate is a challenge in and of itself at this stage of expansion. The coronavirus spread will be inside people’s heads before planning their next trip. A cruise ship filled with 6,000 passengers was quarantined in Italy. It turns out a passenger had the flu. Imagine how that all went.

The US-China relationship continues to get more complicated and twisted. The health scare comes after the trade truce. Phase 1 is done. Phase 2 is unlikely before the election. Ian Bremmer says there won’t be a Phase 2. China has publicly said they want Trump to be reelected. Being tough on China is a bipartisan position in Washington. The thinking is China would rather have four more years of Trump because his combative rhetoric helps rally Chinese nationalists, which strengthens a tough President Xi. Plus Trump has targeted American allies, which has weakened alliances and enables anti-west policies.

Japan and China are experiencing warming relations for the first time in decades. The #2 and #3 economies are hedging their bets and opening a path away from US dominance. China wants stronghold in Southeast Asia. Hong Kong is still yet to be resolved. Hong Kong is not the same as it was when the British handed it over two decades ago. The rule of law is in question. China saw to that.

The trend of moving away from globalization is accelerating. There are Virtual Berlin Walls on tech rising. Nations are having to choose between the US and China for digital networks and systems. The future of the “internet of things” is tied to the US or China. That’s the decision. Western Europe and North America are almost certain to side with the US. But greater Asia, Eastern Europe and parts of South America could move China’s way. Free Markets are closing.

There is already a geopolitical recession. The US leading less. Others asserting themselves and alliances are fraying — a new world order forming. The Market has not been pricing this in. China is more powerful now than a decade ago, but so is the US relative to its European allies.

Brexit

Brexit is here. After four years, the Brits are officially leaving the European Union tonight. There is still no deal. They have the rest of the year to do so. Brexit made American politics look less dysfunctional. There is now a strong majority under Boris Johnson, which means they can move forward and invest. Boris has no clear ideological preferences. That’s perhaps why he got it done. Flexibility was required. He is trying to find a middle path on 5G to accommodate the US and China. Trump doesn’t like it. The rest of the year is all about new trade and security deals.

Middle East

Israel. A deal is in place. It’s easier to get a deal done when dealing with one side. The Palestinians are not accepting the deal, but that doesn’t matter. It might be the best deal they ever see. That’s Bremmer’s take. The deal is definitely Pro Israel. Palestinian support has slipped in the region. Iran is priority #1. Terrorism and cyber warfare are more concerning. Iran is the principal enemy of Israel and the Gulf nations, led by Saudis. Iran is in a really tough spot. Economically, they’re hemorrhaging from sanctions. The oil price decline exacerbates it. The US doesn’t need Middle East oil. Trump did nothing when Iran hit the Saudi oil facility. Iran learned an important lesson with the Soleimani killing that American death is a red line not to cross. They won’t do that again.

Impeachment and Election

It’s been an exhaustive process, and it’s looking like no witnesses will testify. President Trump appears headed towards acquittal. Impeachment has actually helped, not hurt the President. At least that’s what the polls say. So that sets up the next stage of the 2020 Election. Senator Bernie Sanders will likely win Iowa, but former Vice President Joe Biden still remains the favorite to win the nomination. At least for now. Former mayor Bloomberg’s only chance is a brokered convention, which could very well happen. Look for his commercial on Super Bowl Sunday.

Trump is almost certain to lose the popular vote. But as we know, that doesn’t matter. Trump is winning the swing states, not by much, but winning. His popularity is not high. But the US Economy is doing well. The approval ratings on the economy and historical trends suggest that President Trump remains the favorite to win reelection. But if this economic tide turns, which is perhaps what’s starting to happen now, then it’s anyone’s guess. Sander’s recent surge appears to be catching the Market’s attention. Sanders is not expected to be Market friendly. The biggest risk to the election is if the loser claims illegitimacy of vote and protests. If Americans disagree with outcome the next day, it will be a real problem. You could totally see that happen. Get ready for it.

The Bond Market is forcing the Fed’s hand again, sending signals that another rate cut is necessary. The President is clearly going to agree with that. The Fed Chair has been one of his favorite targets. The President has certainly enjoyed the record Bull run. It will be interesting to see how he responds to the sell-off.

One result of the rally: there are now four $1 Trillion companies. Microsoft, Apple, Google and Amazon. Would you believe their first letters in symbols spells out MAGA? How’s that for irony? But excess liquidity might be drying up. One concern we have is the fact that the Fed has already used some of its ammunition to combat a real crisis and they did it with unemployment already at a five-decade low and the Stock Market at all-time highs.

We are all over it. So enjoy Super Bowl Sunday. Thanks for making it through this long write up! In case you’re wondering, the Super Bowl indicator for the Stock Market historically says if the NFC team wins, then the S&P finishes the year higher. It’s been the case 80% of the time in the 53 years of the Super Bowl. As if you needed another reason to root for the San Francisco 49ers…

Have a nice weekend. We’ll be back, dark and early on Monday.

Go Niners!

Mike

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