Market Update August: Summer Sunshine Beckons but Politics Still Casts a Long Shadow

Indeed, all through the week, economic positivity seemed to fade away, with longer-dated investment grade bond yields falling back noticeably. Dovishness from the Federal Open Market Committee (FOMC) was plain to see in their Wednesday statement, essentially promising to do “what it takes” for a long time. In a sense, bond investors now expect US rates to be at 0% for more than five years, so the US Federal Reserve (Fed) is now limited in how much more impact it can have through interest rates. As Chairman Jerome Powell noted in his press conference, the policy action that matters is now increasingly about fiscal rather than monetary largesse.

The politicians have been doing rather well in coming together to create action during the otherwise disastrous second quarter. However, in the US, the divisions have reappeared as we head into election season. It is noticeable that the divisions are not just along the traditional Democrat- Republican party line. In our article below, we cover some aspects of the Congressional Republicans’ HEALS bill, their proposed replacement to the CARES Act provisions which are now expiring. It differs substantially from President Trump’s more generous and conciliatory proposal of a temporary extension of the current $600 per week Federal payments to the unemployed. Many see these payments as more generous than necessary, so a proposal to reduce them is unsurprising. However, the transfer of burden to the states and away from the federal government could be economically disastrous. It seems to be driven by the local election dynamics, not by the needs of the economy.

A US congressional recess is supposed to start at the end of next week, the deadline which matters most. Most analysts expect that a political compromise on the bill will be achieved before then, with another $1 trillion bill of spending at least. However, yet again, the fragility caused by the partisan US political system is on show, along with the tendency to hold the economy hostage.

Regarding additional spending, President Trump has an incentive to bolster the economy in the near-term. But his longer-term spending plans will not be higher than his rival (given the Democrats’ traditionally looser fiscal policy) and that is not helping his chances. The stabilisation in virus case growth may be better news, but Trump really needs employment to be improving. It had been, but has halted in the past two weeks.

Maybe equity markets will help him. Across the world, companies have had the busiest week ever for earnings announcements, which we look at in another article below. Companies have had a torrid time, in line with the economic data. However, the larger US companies have been relative and, in some cases, absolute beneficiaries. The growth wobbles of earlier this week were pushed away by Apple and Amazon (although Google did slightly less well). Presidential challenger Joe Biden may have something to say about this if he wins. The current hearings over big tech’s monopolistic tendencies could also add to this narrative.

Trump’s tweets about the potential invalidity of the November vote seemed to have a markedly negative impact on the US dollar. A weaker dollar is usually quite a good thing for the global economy, but a rise of domestic tensions into the winter months may not be. If it were to seize up the US political system at a point when fiscal action is most needed, it could be a very unhappy outcome. The Euro has strengthened rapidly this week, with the biggest gains happening swiftly after the tweets. In general, these sorts of political stories are not that important for markets, but in this unusual time investors seem to be paying them closer attention.