In my Friday note, we talked about the set up for a breakout in gold and the vulnerability of stocks, as we head into a very important week that will determine the path of the government-sponsored economic recovery.
After plans were reported over the weekend that the White House and Republicans in Congress agreed on more handouts, gold broke to new record highs, and stocks were bid for the day, as we opened the trading week.
Let’s talk about the Republican package. First, as we’ve discussed, Congress is very unlikely to come to an agreement on a new stimulus package (not next week, not before the election). With that, the Republican proposal is probably just an exercise. But as we’ve also discussed, they must figure out a way to extend the federal unemployment subsidy (I’ve seen reports that it expired over the weekend… the bill, itself, says it expires on July 31).
With the above in mind, Mnuchin said over the weekend that they may piecemeal (or “phase”) the next stimulus package. I suspect what he’s really saying is “we need to get the unemployment benefit extended (in some form), and fast, and we can’t let the Democrats hold the economy hostage, by negotiating mail-in voting against it.”
This is setting up to hit a crescendo by the end of the week. And it may require Trump using Executive Order (if possible) on the unemployment subsidy.
We end the week with the clock ticking on the July 31st expiration of the unemployment subsidy (the extra $600/week).
And we end the week a significant step closer to action against China, whether it be a U.S. led coalition that puts China in the economic penalty box, or something bigger (military action).
With this, gold is getting power from two sources. It is already well on the path to new record highs, on the bet that trillions of dollars of new money floating around the world will inflate the price of all assets. And now, global capital is moving to gold as a flight to relative safety, as the probability of war with China has risen. Gold crossed $1,900 today…
How high can it go? Let’s revisit an updated chart on gold from my March 5 note.
This is a classic C-wave (from Elliott Wave theory) here in gold. This technical pattern projects a move up to $2,700.
Next, not surprisingly, with an imminent risk to the economy (the expiration of the unemployment subsidy), and 2) the rising risk of geopolitical instability, stocks end the week in a technically vulnerable position.
As you can see, the S&P sits on this very important trendline (as I write), representing the recovery from the March lows. This doesn’t look good, and this line has already given way in the Nasdaq.
With the above in mind, next week will likely come with less than comforting price action in markets. But, even though Congress is very unlikely to come to an agreement on a new stimulus package (not next week, not before the election), I suspect/hope the White House will find a way to extend the unemployment benefits, in the current form (faults and all). That should keep the economic recovery intact.
As we discussed yesterday, if you've been listening to Pompeo, it's increasingly clear that he's setting the table for a large-scale confrontation with China.
Today, he took the case to the world.
If we had any question on how aggressive Pompeo might be, he led the way yesterday with a comment about the head of the WHO, saying he was "bought by China." Remember, Tedros (WHO head) was on the ground in China, through the depths of the health crisis there, yet refused to call it a pandemic until March 11th — over a month after it was known that there was human-to-human transmission and about 20 days after the virus had already reached over 20 countries worldwide.
Take a look at the language in Pompeo's message today:
"The only way to truly change communist China is to act, not on what they say, but on the way they behave” – followed by examples of China's IP theft, censorship, global propaganda campaigns, espionage, etc — and he documented the threat to its own citizens.
"It's time."
"It's time for free nations to act."
“For too long we let the CCP set the terms of engagement. But no longer. Free nations must set the tone.”
I’d say the line in the sand has been drawn.
And to be sure, it will be crossed. And now the table has been set for action to follow.
As we discussed yesterday, this will likely come before the election.
With this, gold traded near $1,900 today. We've talked about gold here in my daily notes quite a bit, saying a new record high was coming, given the recipe for a global reset in prices (i.e. inflation). The last $100 has been fast. We're in sniffing distance of the all-time highs now, and it's not only inflation-driven flows, but also flight-to-safety flows now.
The news of the day wasn't about China, the virus or earnings. It was this headline: "White House officials and some Senate Republicans are discussing a short-term extension of unemployment insurance while they negotiate a broader stimulus package."
We talked about this huge issue on Monday (the unemployment subsidy) and the looming expiration of that benefit, which has created leverage for the Democrats in new stimulus negotiations.
As we discussed, the economic recovery would evaporate on August 1, IF the gridlock on Capitol Hill were to result in the expiration of the Federal supplement for the unemployed. Whether it be the current $600/week or some other form with improved incentives to return to work, it has to continue.
Hopefully, we get the latter. Nonetheless, the prospects of having that continued, without the necessity of an agreement on broader stimulus is very positive news.
Let's talk about China …
If you've listening to Pompeo, it seems increasingly clear that he's setting the table for a large-scale confrontation with China.
And, not coincidentally, we'll likely see something materialize before the election.
Incumbent Presidents, when they’ve actively sought a second term in war time, have a 6-0 record.
Back in May we talked about the likelihood this escalation with China.
Here's an excerpt from my May 29 note …
"This is all beginning to look like China will be put in the trade penalty box, not just by the U.S., but in coordination by the global democratic powers.
In the near term, this confrontation with China will further disrupt global supply, which is already feeding into a formula for higher prices, which will soon be followed by higher wages.
In the medium term, a globally coordinated hardline penalty for China would force the movement of the global supply chain sooner, rather than later, and force the restructuring of economies (for the better) of the United States, Europe and Japan.
The question is, how would China respond to an economic penalty box? Likely with aggression. The CCP can't politically withstand the suffocation of exports."
With the above in mind, Pompeo has been out alliance building.
This collision course has been in the making for a long time. And, again, it's no coincidence that its all culminating ahead of the election. As bifurcated the outcome might be for the U.S., domestically, based on the election outcome, the outcome has even more extreme polarity for China.
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, they also fall out of the race for global power. The stakes are extremely, extremely high for China (and the world).
With the EU’s agreement this morning on a 750 billion euro fiscal package, the long-term prospects for 1) the survival of the euro and 2) a united Europe, just got a significant upgrade.
That should be a greenlight for a higher euro. And that should make European stocks a target for global capital flows (maybe rabid global capital flows).
Let’s take a look at the charts.
First, here’s the euro …
As you can see, the euro has been in a 12-year downtrend. The value of the euro hit an all-time high and peaked as the global financial crisis was erupting, and the ECB was caught on the wrong foot (raising rates, when they should have been cutting). The future of the euro has been in question ever since, mostly driven by Europe’s inability to unify and respond with expansionary fiscal policies, to help the economy. So, now they have.
And with that, the euro broke above 1.15 today. The mid 1.18s is probably next. And then we may very well see a euro back to 1.30-1.40.
The euro story aligns perfectly with the lower dollar story. On that note, we looked at the long-term dollar cycles last month (which argues that we’re less than half way through a dollar bear cycle). Here’s the chart again …
With the outlook for a higher euro, that makes European stocks a much easier decision for global investors …
The two spots with the most upside here, are not surprisingly, the two biggest pain points for the euro zone over the past 10 years: Italy and Spain.
Here’s a look at Italian stocks …
Italian stocks were just beginning to break out in February when the virus hit Europe and ravaged Italy. As you can see, with today’s news we have a bullish technical break to continue the “V”shape of the recovery.
Here’s a look at Spain …
This is the big laggard. If we consider that German stocks are nearing a full V-shaped recovery, and Italian stocks have broken out, Spanish stocks have another 33% upside to recover the pre-virus levels.
And remember, for global investors, they get a euro-denominated asset (in these stock markets), which can amplify the return, if the bullish euro scenario plays out.
Despite what has been billed as a terrible earnings season, thus far, 73% of S&P 500 companies have beat on earnings, and 78% have beat on revenues.
Again, these are beating a low expectations bar, but we are seeing the influence of the massive wave of intervention. Keeping consumers and businesses solvent through the shut-down, and attached to jobs coming out of it, has resulted in positive surprises on the earnings front.
But the question is, will it sustain? On that note, the biggest news this week will be progress toward another stimulus bill.
Here's what's at stake: The big federal unemployment subsidy expires on July 31. That's $600 a week for the unemployed that goes away. Add to that, the federal moratorium on evictions expires on July 25. This all with unemployment at 11%.
This is a formula for pain.
And, unfortunately, it brings us to a collision course of gridlock coming on Capitol Hill.
The Democrats have already crafted a $3 trillion plan. The Republicans are now working on a $1 trillion plan.
I suspect we'll get neither.
The Democrats are fighting to extend the $600 a week federal unemployment subsidy through January. Based on the number of unemployed that are making more on unemployment than they would working, this could keep more than 60% of the unemployed at home through January. That clearly handicaps the economy.
To counter this proposal, Republicans have been looking at "back to work bonuses" that would expire right around the election. That would get them back to work. And for minimum wage workers, they would make more, adding in the Federal subsidy, than they would have made on unemployment.
If push came to shove, the Republicans might give way on the unemployment beneift. But, as we've discussed, the catalyst for gridlock on another stimulus bill has everything to do with mail-in voting.
The Democrats have continued to work through strategies to cram mail-in voting into legislation. That would probably seal the election for them.
The Republicans would have no choice but to reject it. With that, I suspect the Democrats will hold the economy hostage for it. We will see.
Yesterday, we looked at the COVID story, through a simple and clear lens — the data.
Contrary to the hysteria in the media, the raw data tells us that the death rate is moving lower, and has been moving in an orderly trend lower since mid-May.
Add to that, we took two very important observations from two very important voices in this crisis (the CDC and former FDA head Scott Gottlieb — the same authority figures that the media relies on to validate their draconian stories and positions on the trajectory and threat of the virus) and we found that the death rate, if we include the undiagnosed (per their projections), is between 0.4% and 0.2% (near the ten year average flu death rate of 0.137%).
Now, with this backdrop in mind, let's revisit what we have on the liquidity front:
We have we have $3.3 trillion in fiscal stimulus now working 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+.
This doesn’t even include the massive amounts of money the banks are creating, with a zero reserve requirement. On that note, if we look back at the Global Financial Crisis response, where the Fed expanded the balance sheet from $870 billion to $4.5 trillion. The money supply grew from $7.4 trillion to almost $14 trillion. That’s a double in the money supply. If the money supply doubled this time, we’d be looking at over $15 trillion of new money circulating in the economy.
Still, despite the better than expected trajectory on the health crisis, and despite the unimaginable amount of new money floating around, the expectations bar for the economic data has continued to be in the gutter.
But the data don't lie. That's why we have this chart …
We looked at this Citi Economic Surprise Index a couple of weeks ago, which shows us how economic data is reporting relative to expectations. As you can see, there has been and continues to be a dramatic disconnect in what the expert community thinks should be happening, and what is happening. The economy is bouncing back aggressively.
This view on the economy reminds me of the view on the NY health crisis. Remember, we followed the chart on daily intubations in NY hospitals, very closely back in April.
The daily narrative surrounding the crisis was doom and gloom everyday from the media and the NY Governor. And neither the media nor the Governor would report on the effectiveness or progress of the experimental treatment options that were being utilized in the NY hospitals (maybe the most important information everyone needed to know).
But the daily intubations told the story for them. When the data started turning south (i.e. showing less intubations), and then went negative, it was clear that something was working. The data don't lie. That was the turning point in the health crisis, overall.
I like primary research. I don't like to rely on journalists to interpret the world for me.
With more than 24-years of experience in global financial markets, I know very well how the financial media interprets markets, and financial and economic data. It's often: 1) wrong, 2) interpreted with a bias, or 3) presented with a shocking headline that is misleading, if not unsupported, by the article itself (most importantly, unsupported by the facts). Many times its all of the above.
That's why, when the Fed Chair speaks. I listen to the words coming out of his mouth. I don't rely on a journalist to tell me what he said. Similarly, when there is economic report, I read the original report and look at the data (and analyze it within the context of historical data, and the bigger picture). I don't wait to read about it in the Wall Street Journal.
With the above in mind, we would all be better informed on the virus, if we looked at the data ourselves.
In that vein, Harvard has compiled a database with time series data on Covid cases and deaths, by day, by country. This is the only place I've found the raw time-series data on deaths. You can see it for yourself here.
This is useful because we can look at deaths as a percent of cases in an historical chart. And it gives us a very simple big picture view of the virus.
Let's take a look.
In the above chart, the x-axis is "days since the first diagnosis of a Covid positive case." You can see that deaths as a percent of cases is 4.15% (the far right of the chart), and has been moving lower since mid-May. That May peak is right in the heart of "phase 1" reopenings of state economies.
Now, a few weeks ago, 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.
If we do that, the death rate comes down to 0.42%. That's about 3 times the ten year average death rate of the annual flu. You can see that flu death rate in the green line in the chart below (and that's with a vaccine).
Next, the former FDA commissioner, Scott Gottlieb, has said the mutiple could be as much as 20 times higher. Remember, as we discussed back in April, there was an antibody study on 3,000 New Yorkers that showed a 14% infection rate. In New York City, the number extrapolated from that study was 21%. Wake Forest has run a large antibody study since April, which now suggests 14% of North Carolina residents have or have had the virus.
So, Gottlieb's high-end projection would put the U.S. infection rate at about 20% (more than 70 million Americans). If we use that 20x multiplier on the current infection rate, the percent of deaths-to-cases drops down to 0.21% (chart below).
That's slightly higher than the flu death rate.
So, the death rate has gone down since mid-May, 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).
Based on charts two and three, we should expect the rate-of-change in the death-to-cases ratio to decline more quickly as the rate-of-change in testing continues to increase.
Yesterday we talked about the banks, in particular, the record Q2 performance of JP Morgan. If you needed more convincing that the trillions of dollars in stimulus were a gift to the banks, Goldman Sachs should have convinced you today.
Goldman grew revenues by 41% compared to the same period a year ago (second biggest quarter ever). And they beat the street’s estimate on earnings by 65%. That’s one of the best quarters ever, and that’s after they stripped out (set aside) almost a billion dollars in profits for “provisions for litigation and regulatory proceedings.” This is Goldman’s version of earnings management, nothing different the $26 billion set aside yesterday by Citi, JPM and Wells for “provisions for bad loans.”
Bottom line, with the Fed absorbing all credit risk, and flooding the country with money, the banks are profit printing machines.
With that, as we discussed yesterday, this should be a greenlight to buy the bank stocks. And that’s supported by this very compelling chart …
In this chart, you can see we have a big technical reversal signal (an outside day) in technology stocks (the XLK) on Monday. And now we have the banks revealing their position of strength in this bazooka-stimulus world. Perhaps we have a reason to finally see some money rotate out of the high flying tech giants and into financials.
JP Morgan and Citi reported this morning before the open. We talked about the backdrop for these reports yesterday.
We expected to see big loan loss provisions. Check. JP Morgan, Citi and Wells Fargo set aside more than $26 billion in allowance for futures losses on loans.
And yet we talked about the likelihood of seeing good, and maybe very good performance from the banks on the quarter. For JP Morgan, the biggest U.S. based global money center bank, it wasn't just good, it was record setting good.
They reported a record $33 billion in revenue — a 15% growth rate, year-over-year. That's one of the largest banks in the world growing at15%!
Wall Street was looking for EPS of $1.04 (that's down 63% from the same period a year ago). They reported $1.38. That's a beat. Great. But that doesn't nearly describe the quarter.
Let's take a look at what really happened.
As we discussed, it was a given that the banks would take advantage of the environment and take a huge provision for loan losses. In JPM's case, they set aside over $10 billion from the quarter, to ramp up an already huge loan loss reserve war chest.
On the one hand, it looks like they're positioning themselves as ultra-conservative on the economic outlook. On the other hand, if a worst-case scenario were to unfold, having the JPM war chest of $34 billion wouldn't come close to absorbing the losses.
That's why the Fed, Treasury and Congress had to, and did, go all-in — and did so quickly — to neutralize the economic apocalypse scenario. And there is no pulling back. If they need to do more, they will.
With that in mind, as we discussed yesterday, because policymakers have protected the balance sheets of consumers and businesses, and because policymakers have pumped trillions of dollars into the economy, and intervened to ward off threats to the financial system, the banks were given glidepath to print profits.
With that, JPM reported record markets revenue (up 79%) in the quarter. Investment banking fees were up 54% in the quarter. Deposits were up 20% in their consumer business and 41% in their commercial business. Loans were up 13%. Overall, JP Morgan created $1.2 trillion of credit in the second quarter.
Bottom line: We expected the banks to "take cover" from a broad economic crisis, to manufacture lower earnings. They did. But if we strip out the loan loss provisions, things look very different. JPM would have made a record $3.57 in EPS. That's 27% earnings growth from the same period a year ago.
