Financial markets remain extremely sensitive to the likelihood of the US fiscal stimulus. Near-term fiscal support appears unlikely after President Trump broke off stimulus negotiations with the Democrats. Expectations for near-term stimulus relief has been unduly conflated in recent days, with an increasingly priced-in Biden presidency and Democratic sweep of Congress via prediction markets that could deliver an ambitious infrastructure bill.
Differentiating between fading near-term prospects for fiscal stimulus and still-live opportunities for medium-term prospects for increased government spending has several implications for reflation trades and asset prices more broadly.
So long as Biden is comfortably ahead in the polls, the market could continue to rotate into the election. And while cyclical stocks are generally not for the impatient, these days they most certainly are. In a similar vein, reflation expectations for 2021 will drive renewed bear steepening in the UST curve. This could also prove to be an attractive entry point for assets that benefit from reflationary trends, including gold.
The asset that most desperately needs the immediate stimulus pump was oil. That’s a prompt contract and doesn’t necessarily have a privilege of peering too far into the horizon, so the stimulus delay could prove an arduous three-month stretch for oil markets with Covid-19 still tearing through Europe and other hotspots popping up in the northern hemisphere. I’m not advocating a buy all sell oil trade; be aware that the reflation correlation is not as rosy as yesterday, given the lengthy stimulus package delay.
By all accounts, the market is pretty jumpy. Still, the correction in equity markets looks like a risk parity unwind (sharp co-movement in technology stocks, inflation break-evens, and gold prices), rather than a reassessment of growth prospects or a shift in the post-election overall stimulus views, which are bound to be very lavish.
Sure, Chair Powell did his best version of gaslighting Congress while sending a stern economic warning. Still, given that the economy has climbed out of a deep hole, the recovery looks broadly intact to market forecasting – notwithstanding the expected -Q3 slowing. I don't think the apple cart will topple.
With the vaccine around 55-60% priced, there is additional scope for rotating into cyclicals (leisure, autos, beverages, housing and airlines), particularly outside the US as the S&P 500 tends to lose 2-3% in October ahead of elections.
But a minor snag in that view is the curious turn of events; the White House now agrees to the US Food and Drug Administration's guidelines for a two-month observation period to see whether people who got the vaccine suffer adverse side effects, according to The Wall Street Journal [paywall]. The Trump administration had previously been expressing opposition to the plan.
Indeed, this follows the Operation Warp Speed chief advisor today, saying that Pfizer and Moderna efficacy readouts will not be expected until November to December. It’s safe to say the timeline has now "officially" been pushed back for a US vaccine – it’s not a full volte face but a good healthcare pivot nonetheless.
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Investors are still digesting the latest statements from the US central bank, which surprised markets with a far more hawkish stance than expected