We’ve had a crazy seven months. The next two-and-a-half months may be even crazier, heading an election that has big global ramifications.
The stakes are extremely high.
Let’s step back and gain some perspective on just how high the stakes are/must be…
It’s now seven months since the first virus case was diagnosed in the U.S. And in the days and weeks that followed, through social media, we saw imagery from China, of hazmat officials disinfecting streets. We saw videos of Chinese officials welding Wuhan residents into their homes. We saw videos of residents dropping dead in the middle of the street.
I think it’s clear now that there has been plenty of propaganda coming out of China, infiltrating our media.
Now that we have data, and seven months of history with the virus on the ground in the U.S., the world looks far less scary.
As we discussed last week, the virus isn’t nearly as deadly as it was initially said to be. If we assume, as the CDC does, that we are only diagnosing at best 1 out of every 10 infected, then the death rate is quickly converging toward the annual flu rate.
Remember, all along, we’ve discussed what China has to lose, if they are faced with another four years of Trump. It reveals their desperation.
Let’s revisit …
China has spent the past 40 years executing on a plan to rise to a global power.
The Chinese currency was its primary tool. By massively devaluing the yuan in the 1980s through the early 1990s, and then keeping it artificially cheap through a variety of managed peg strategies for the past 25+ years, China became the exporter to the world. The Chinese economy exploded in size, growing 37-fold since the early 80s, while the U.S. economy has grown just 3-fold. This has put China on the footsteps of its goal of global leadership.
And Trump’s economic plan (demanding that China play by the same rules as its trading partners) has derailed it all. If Trump wins, and they abide by a trade deal, the Chinese economy falls out of the race for global power. If Trump wins, and they don’t play ball, but get put into the penalty box by global trading partners (allies Pompeo is building as I write), they also fall out of the race for global power. The stakes are extremely, extremely high for China (and the world).
We are now halfway through the third quarter. And this is the quarter where we will begin to see very clearly that the response is MUCH greater than the damage.
Remember, the economy is down $2.3 trillion from the Q4 peak.
And yet we have more than $6.6 trillion worth of fiscal and monetary stimulus still working through the system.
So what does Q3 look like?
The Atlanta Fed model is currently projecting 26% annualized economic growth for the third quarter.
The easy math on this says that the economic loss is, and will be, aggressively replenished – maybe even by the year end.
And that will leave us with trillions and trillions of dollars worth of new money floating around the economy.
Make no mistake, this is by design. Back in March, when Mnuchin and Powell were confronted with an apocalyptic scenario, they had one option, flood the world with money, reflate GDP and devalue debt.
Things are going according to plan. The downside? Inflation is coming.
With that, we looked at this chart of gold a couple of weeks ago, which projects a move to $2,700. It has since traded as high as $2,072.
And here’s a look at Bitcoin. This big downtrend broke in late July.
About a month ago, as all of the "spiking cases" hysteria was being peddled by the media, we took a sober look at the raw data (from Harvard, here), and concluded that the rise in cases, was simply representing the slow closing of the gap between the reported infection rate and what the CDC believes to be the real infection rate (at least 10 times as many), while revealing a death rate that is converging toward the annual flu death rate.
That has indeed been the case.
As we discussed, the rate of change in cases has only led to the rate-of-change in deaths-to-cases declining, and declining rapidly.
Let's take a look at some updated charts …
First, here's another look at the path of the "case fatality rate" (my charts).
Again, as we discussed last month, despite the fears that the higher case numbers were going to result in more New York-like crises around the country, it hasn't happened.
The death rate has gone down since mid-May, and it has done so for a couple of reasons: 1) treatment options are working, and 2) the large majority of people are simply defeating the disease on their own, and more of those types are being revealed with more testing — and those people are testing because they are being forced to test to return to work OR because they simply can, now that testing is, largely, open and free for asymptomatics.
Next, remember, the CDC chief told us that we've likely only diagnosed about 10% of those that have, or have had, the disease in this country. That's based on surveys of blood samples taken around the country. So the CDC thinks the infection rate (i.e. cases) should be multiplied by a factor of 10.
That CDC projection now brings the number down within the range of annual flu deaths (0.33% in the above chart).
If we assume that were only diagnosing 1 out of 20, the COVID death rate goes to 0.17%. The 10-year average U.S. flu death rate is 0.13%.
The declines of yesterday in both stocks and gold, proved to be good buying opportunities.
As we discussed, the VP selection from Biden yesterday didn’t introduce any surprises, so markets should continue the focus on the big themes: the progression on the health crisis front, the massive global stimulus (and a bulldog President that will continue force things through to keep the bridge intact) and building momentum toward a showdown with China, which includes moving the global supply chain to “freedom loving” countries.
Within that second “big theme” (stimulus), we’ve laid out the simple math that shows the response has been bigger than the damage.
The economy in Q2 produced an annual equivalent of $19.4 trillion of output. That is down $2.3 trilion from the Q4 peak.
More than offsetting that is the $6.6 trillion worth of fiscal and monetary stimulus still working through the system.
Even ignoring the additional monetary stimulus that is available through Fed facilities, and ignoring the growth in money supply that will certainly come with the Fed’s loosening of bank reserve requirements, and ignoring the possibility of more fiscal stimulus, we still have more than $3 trillion in excess response.
As we’ve discussed, this will unleash a global reset of asset prices.
We’ve already seen a big spike in the wage data, thanks to an aggressive federal unemployment subsidy and increased essential worker wages (hazard pay), which is an important driver of prices. We’ve seen a spike in food prices, thanks to supply chain disruptions. And today, we’re seeing some of the growth in money supply show up in the consumer price index, as you can see in the chart below. This is likely just the beginning of an aggressive bounce in prices.
As we’ve discussed now for months, inflation is coming. Be long asset prices.
Big news came late in the day as Biden selected his running mate: Kamala Harris.
Harris has been the high probability pick, and that should be good news for market stability. And that should be good news for a Trump re-election.
As we discussed yesterday, in my view, Michelle Obama represented the biggest risk to Trump. It had the element of surprise. The media would have gone crazy over it. And it would have opened the door to another Obama White House, in the case of a Biden resignation. That could have been enough to get the Democrats over the line.
It didn’t happen. And for markets that like certainty, in a world of total uncertainty, this pick should be keep markets focused on the big themes: the progression on the health crisis front, the massive global stimulus (and a bulldog President that will continue force things through to keep the bridge intact) and building momentum toward a showdown with China, which includes moving the global supply chain to “freedom loving” countries.
This should continue to promote higher global asset prices.
On that note, let’s look at a couple of key charts …
Here’s a look at stocks.
The S&P 500 neared the all-time highs today and reversed into the close.
And gold sold off aggressively today into the VP announcement. But it retests the 2011 record highs, which should be a buying opportunity.
From spending time in several small town economies over the past week, I have a few observations:
Granted, I was in an attractive vacationing area in a sparsely populated area, but tourism is hot! Resorts and cabin rentals were booked – and booked out for some time.
This is consistent with what the CEO/Founder of Airbnb, Brian Chesky, has said in recent weeks. After his $40 billion-dollar IPO was shelved by COVID in March, Airbnb proceeded to lose 80% of its business over the next two months. It looked like the death spiral. But by June, the year-over-year comps had recovered!
According to Chesky, after months of lockdown, people are looking to get away, to change scenery. And they have been looking to do so in areas within driving distance of about 300 miles. That indeed seems to be the case.
Surprisingly, in a world derailed by a widespread infectious disease, it hasn't been enough to kill the "sharing economy." And that's probably a good leading indicator to a recovery in Uber's ride sharing business (which was down 73% in Q2), and in air travel.
Second observation: With over 20 million people unemployed in this country, there were help wanted signs everywhere. Some restaurants were shuttered due to lack of staff. Others were running on skeleton crews on modified hours, and yet (in their words) were still making more money than they had ever made.
Bottom line: The demand is strong, but the supply is suffering in a number of ways (including a labor shortfall in services and fulfillment). Employers can't compete with the government for low wage workers.
This brings us back to the point of my last note. While the federal unemployment subsidy (the extra $600/week) has been a disincentive for getting people back to work, if left with the choice of taking it away or continuing it (even into the end of the year), we have no choice but to continue it. If not, the economy implodes and takes with it trillions of dollars of intervention bullets that have already been fired.
With that in mind, we expected the Democrats to use that Federal unemployment subsidy as ransom in new stimulus negotiations, in an effort to force the Republicans to agree to their wish list. That would include voting reforms, which would all but seal the election for them.
Consequently, we expected this to result in Trump's use of Executive Order to extend the federal unemployment checks.
Indeed, that's precisely what we got on Saturday.
Trump used Executive Action to keep the unemployment checks going, but reduced them $400, only if states contribute $100 of the $400. With this, the tables have turned on the Democrats here, and very quickly. They lose their bargaining chip in stimulus negotiations. This means, no voting reform. And if they fight the Executive Action, they become the clear obstructor in getting money in people's hands. Moreover, key Democrat-led states (with large fiscal issues) are most likely to balk at contributing to the Federal subsidy – a bad look.
With this, I suspect the next political card played by the Democrats will be a big one — a bombshell VP announcement of Michelle Obama. The bookmakers have this at 22-1 odds. That puts her behind five more likely candidates.
My view: This would be the most challenging set-up for Trump (for re-election), as it would bring about the potential for an Obama White House again, in the case of a Biden resignation.
She launched a heavily promoted podcast two weeks ago, and the early episodes sound like campaigning, rather than podcast hosting.
We came into the week expecting the Democrats to use the expiration of the $600/week unemployment as ransom for their bigger demands, which include mail-in voting.
The Republicans have made an attempt to strip that out from the stimulus package negotations, and just extend it. But the Democrats aren’t having it. It’s too valuable a bargaining chip for them. And they will now hold the economy hostage for their demands.
That doesn’t bode well for the economy, as $2,400 to $4,800/week of household income for the 30 million unemployed goes away today.
Again, as we discussed last Friday, this may require Trump to use Executive Order to extend the federal unemployment checks.
Can he do it? Congress has exclusive control of the purse. But once they’ve appropriated funds, “the President and executive branch enjoy considerable discretions has to how those funds are spent” (paper on Presidential Spending Discretion and Congressional Controls, here). Mnuchin said earlier this week that there’s still over a trillion dollars yet to be spent from the first package.
With all of this building, we ended last week with a look at this S&P chart, as it was breaching this very important trendline that represents the recovery from the March lows. …
Here’s how it look today, as we head into the weekend with no progress made on Capitol Hill …
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We had the second quarter GDP report this morning.
Remember, we've been following the consensus view and the projections from the Fed models here in my daily note.
Let's take a look at the evolution of those projections …
The consensus view has been running in the down 35% area. The Fed model has been projecting as deep a decline as 54% for the quarter. The official number for Q2 was down 32.9%. So, if we add this to the contraction of 5% in the first quarter, the economic hit from COVID (and the related shutdown) comes in at $2.3 trillion.
You can see the BEA's table above, we have peak in GDP in Q4 of 2019, where the economic output was an annualized $21.7 trillion. And the economy in Q2 produced an annual equivalent of $19.4 trillion of output. The difference is $2.3 trilion.
Now, remember, we have
$3.3 trillion in fiscal stimulus, half of which has yet to work through the economy. And the Fed has pumped $3 trillion into the system since March. That’s a total of $6.6 trillion. And it’s estimated that, with the Fed’s other facilities, the Fed could inject up to another $3 trillion+.
So, there's a lot of excess money floating around. The response is bigger than the damage. Unfortunately, that money seems to be funneling to the winners of the lockdown economy. Amazon, Apple, Google and Facebook all put up record numbers in the quarter.
The big question has been, all along, how much excess money will be left in the response, once the economy gets back to full operating capacity? That has always been dependent upon the path of the virus. And as we've discussed here, the data, on that front, look favorable. However, the politics and propaganda at this stage has become, perhaps, a bigger threat.
Yesterday we talked about the big announcement from Navarro, that the government would be reviving the once iconic American company, Kodak, by anointing it as the primary manufacturer of ingredients for medicines to be made in America (bringing the supply chain home).
As we discussed, this was a $100 million company on Monday that would likely become a $5-$10 billion company in the coming years. That means after the near quadruple in the value yesterday, it was still dramatically undervalued.
Here’s what the chart looks like now …
The valuation touched as high as $2.6 billion today! It’s still cheap.
Next, we have developments on the virus front …
The “second wave” of rising cases, is now more than a month and a half in, and indeed, as we discussed in my July 16 note, the rate-of-change in the death-to-cases ratio has only declined more rapidly as the rate-of-change in testing has increased.
To put it simply, those that were projecting a big spike in deaths, because of the spike in cases, have been wrong. Rather, the spike in cases is simply representing the slow closing of the gap between the reported infection rate and what the CDC believes to be the real infection rate (at least 10 times as many), while revealing a death rate that is converging toward the annual flu death rate.
With the above in mind, we have another big development on the treatment front. The controversy over an early treatment option for the virus is re-emerging. Doctors are standing up and making their case publicly for the safety and efficacy of hydroxychloroquine and zinc. The group met with Pence today asking for the administration to “empower doctors to prescribe hydroxychloroquine without political obstruction.”
As Jay Powell said today, the path of the economy depends on the path of the virus. The developments above are positive for the economic outlook.
Finally, the battle between the Republics and Democrats on a new stimulus package is playing out just as we’ve expected it. The federal unemployment subsidy is the political football, and there is no viable path toward an agreement. With that, as we’ve discussed, it may boil down to an Executive Order from Trump to extend the $600/ week. Good news. It was reported today (by Jim Cramer) that a short-term extension is coming. Based on history, I suspect his “source” was Mnuchin.
Back in early March, before the shutdown, the government was beginning to scramble to get funding packages moving to respond to the virus.
They started with $8 billion, which is now a rounding error in the overall response.
Back then, we talked about the winners that could come from government spending packages. Here's an excerpt from my March 4th note:
"Likely winners in the U.S. will be healthcare (related to the healthcare crisis — hospitals, pharmaceuticals)… perhaps manufacturing, as an effort to bring the supplychain back home … that would [also] bode well for engineering companies, heavy equipment/ machinery makers, metals producers, natural resource stocks and maybe some left for dead industrial conglomerates (GE?)."
Let's focus on the latter part: bringing the supply chain home.
We're seeing it, and its the very early stages.
Through the Defense Production Act, we've already seen U.S. companies turned into medical supply manufacturers. And today, Navarro announced the first major step toward moving the manufacturing of medicines back to the United States. Indeed, he's doing it with a "left for dead" iconic American company, Kodak.
Kodak was a $114 million company yesterday. Today, it's worth three times as much. In five years, it will probably be a $5-$10 billion company, transformed by the initiative to bring the supply chain home.
If Trump wins the election, my guess is he will make more iconic American companies relevant again, as he has with Kodak. Again, GE is name that comes to mind that, in the eyes of the administration, could be a symbol of American manufacturing renaissance.
In 2007, GE was a $425 billion company, the second largest company in the world. Thirteen years later, and GE is fighting for its life, worth an eighth of its peak value. Billionaire Nelson Peltz has a large stake in GE, and we own it in my Billionaire’s Portfolio.
