August 31, 2020
While VIEW has enjoyed the summer weather, especially based so close to the Canadian border, the wind has literally shifted the last few days and with it the August humidity has evaporated and temperatures have the hint of fall. Seasons change for the weather but market seasons cycle and change as well. While 2020 has had so many multi-colored swans so as to vividly highlight the clustering behavior of risk, cycle forces remain in place just as they were pre-covid19. Covid19 was never the driver of the cycle, rather it was the catalyst for a bottoming of growth beyond which the market could have imagined. And it acted to clarify risks in markets and the economy that were already lurking. Structural underemployment and chronically lagging wage growth now are joined by an even higher level of debt outstanding across the private and public economy. Yet, as we have seen in the United States and abroad this summer, there is more affecting societies than these economic conditions or even the pandemic. Conflicts have intensified along socioeconomic, racial, political and military fault lines. All the while, volatility across assets has, according to VIEW's aggregated risk signals, retreated to points in some cases close to pre-pandemic levels. As we flip the calendar into fall, consider the following on the event horizon and whether complacency is warranted or just a case of willful blindness.
Events and developments that have high potential impact from here to the end of the year.
1. US Elections: the race is closer than polls indicate and based on trends, is tightening. Arguably post election ramifications are as big as 2016, primarily due to many policy positions that are not residing either side of the center but at far corners of the political ring. Beware volatility in the event the results are at all close given the pre-election positioning on validity of polling methods.
2. Employment roll-over or flat-line: there was an obvious recovery in some measures of aggregate employment as economies opened, even slightly, from totally closed. That said, conversations with corporates and public statements indicate the highest probability is for a second wave of lay-offs as businesses adjust to what they see as a new level of demand. This has implications for #1 but maybe not for Fed policy, which apparently is being held firm no matter what, believing it can generate business risk-taking and by extension hiring through stimulus as opposed to spurring obvious financial risk-taking across various asset markets. When they only give you a hammer and nails to build the house but no saw, do you really just pound harder?
3. Geopolitical frictions: when economics stress societies and governments by derivation, tensions rise and accidents can happen. Greece/Turkey, India/China, China/US-Taiwan, Belarus, US/Russia are a few of the current situations that could be destabilizing forces, depending on their resolution.
4. Debt/Fiscal Cliff: spending time trying to characterize the shape of any recovery in the US or elsewhere seems a weird exercise in trying to fit a complex system's trajectory of contraction or growth into a symbol one could wear on t-shirt. That said, monitoring real economic activity is always important and credit market dynamics are essential. What we see is that lending standards across consumer and corporate credit have and are tightening quickly. Commensurate with this, loan demand across these same categories is dropping. What has not caught up with tightened standards and decreased loan demand are delinquencies, owing to the trillions in pandemic support deployed by the federal government over summer. Consider the government's ability to make a reasonable deal on support efforts immediately in front of one of the most contested elections in the country's history. This could end up being a messy process and banks are getting out in front of the credit cycle.
5. Narrow and crowded US equity market: despite price action elsewhere in currencies, bonds and commodities, headline attention remains focused on the stock indices. These have really become a bet on mega-cap technology, at least in part due to the more resilient results from these companies during the pandemic depression/recession. That said, the magnitude of relative out-performance in technology opens up potentially more attractive alpha elsewhere should the market broaden as we head into 2021. This would however, mean a transition phase in market leadership would need to navigated, which can easily come with volatility.
6. Urban violence: VIEW is struck by the degree to which urban crime rates and demonstrations, many of which have turned violent, have popped up across the world (US, Germany, Lebanon, Belarus, Sweden). Given the degree to which lock-downs, school shut-downs, economic catastrophe and skyrocketing unemployment have all materialized due to Covid19, civil disturbances should not surprise clear-eyed observers. Catalyzed and intensified due to racial tensions in some countries over summer, widespread instances of civil order breakdown are likely to linger through the US elections and possibly for some time afterward. This is given the likelihood that demanded changes, even if they are adopted, will take much longer to be visibly effective, indeed if they ever are. In the US, recent events suggest positions on either side of these debates have hardened and will likely remain so over the near term.
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