The second wave’s not the infection
Nor, either, is it the election
Instead, central banks
Will fire more blanks
As each makes a massive injection
But meantime, the world now awaits
The outcome from votes in the States
Most polls point toward Blue
Which many construe
As time to add risk to their plates
Election day has finally arrived, and the market is positively giddy over the prospects, or at least so it seems. Equity markets worldwide are rising dramatically, haven assets are selling off, so Treasuries and bunds have fallen, and the dollar is under pressure versus every currency except the Turkish lira. Most polls continue to point to a Biden victory, although there are several, interestsingly those that predicted Trump’s victory four years ago, calling for him to be reelected. It is interesting that risk is being acquired so aggressively at this time given a key part of the narrative has been the relatively high probability of a contested election with no winner declared for weeks, if not longer driving major uncertainty in markets. In addition, several big cities have been taking precautions against anticipated violence and rioting, with storefronts being boarded up and additional police called to duty. Again, that hardly seems like a signal to be adding risk, but then this is the 2020’s, when everything you thought you knew turns out to have been wrong.
I guess the real question is, can the risk rally be sustained? Well, if central banks have anything to say on the subject, and clearly they will try, the answer is a qualified yes. Qualified because the longevity of the rally is still subject to debate.
While we all know that both the Fed and Bank of England will be meeting on Thursday, last night we got our first central bank meeting of the week, when the RBA convened Down Under. As was widely expected, they cut their Cash Rate Target to 0.10% and they lowered the yield target on 3-year government bonds to 0.10% (that is their yield curve control program) but they also surprised the market by expanding their QE by A$100 billion. This last is in addition to their unlimited purchases to maintain the 3-year rate at 0.10%. The market response was quite positive, but it’s not clear whether that would have happened regardless, or whether it was dependent on the RBA’s actions. But whatever the case, the ASX 200 rose 1.9% and AUD rose more than a penny and is higher by 0.9% at this hour.
But what of the rest of the world? Why is risk being gobbled up so aggressively today? For instance, despite a complete lack of new data from Europe, we are seeing broad-based strength in Continental equity markets. The DAX (+1.75%), the CAC (+2.0%) and the FTSE 100 (+1.65%) are all firmly in the green, as are every other Eurozone market. Perhaps they are continuing to react to last week’s ECB meeting where Madame Lagarde promised to “recalibrate” ECB policy in order to do more. In other words, the creativity of central bankers will be on full display. Consider, right now, all they can do is print money and buy bonds. Perhaps they will start to buy other assets (equities anyone?), or perhaps, the frequently discussed digital euro will be announced, with every Eurozone citizen eligible to open an account at the central bank that will be replenished with
cash funds regularly. Or is it simply the European asset management crowd voting that if the polls are correct, the economy will recover quickly? While there is no obvious catalyst, market sentiment has turned quite positive this week, especially after last week’s doom and gloom.
But it’s not just Europe. We saw strength in Asia (Nikkei +1.4%, Hang Seng +2.0%, Shanghai +1.4%) and US futures are rocking as well with DOW (+1.5%) leading the way, though both the SPX (+1.2%) and NASDAQ (+0.75%) remain firmly positive. Again, other than the RBA news, there was nothing out of Asia, and of course it is far too early to have anything from the US. In fairness, yesterday did see a blowout ISM number 59.3 vs. 56.0 expected, so the data in the US continues to be impressive. But it beggars belief that equities are rallying today based on that information. In the end, it remains all about the election.
One thing that we have seen really build up lately is the view that the US yield curve is going to steepen dramatically. That is evident in the record short position in long bond futures in Chicago (>260K), as well as the massive outflows the from ETF’s TLT and LQD, the biggest government bond and IG corporate bond ETF’s respectively. The view seems to be that regardless of who wins the election, the US is going to see higher interest rates in the back end as the massive amount of Treasury issuance that will be required to fund the growing budget deficit will overwhelm the market. And that makes perfect sense. Of course, making sense and making money are two very different things. If the market is excessively skewed in one direction in anticipation of an event, it is the very definition of the ‘buy the rumor, sell the news’ set-up that happens time and again. My take here is that while a year from now, we may well see much higher Treasury yields in the 30-year, that will not be the first move once the election is over. Not only will the Fed have something to say on the subject, but positions will get stale and unwound, and we could easily see a significant Treasury rally, especially if the economy falters.
One last thing to mention is the oil market, which saw a massive rebound yesterday on the story that the OPEC+ production cuts are likely to remain in place, rather than their expected ending. In the end, oil prices remain a function of supply and demand, and any economic growth, for now, will still require oil. The future may well be renewables, but in this case, the future is quite a few years away.
But that is really the story heading into the election. It is surprising to me that we have seen as much movement as we have this morning, but since election results won’t be released until 7:00pm Eastern time, today is no different than yesterday in terms of new information. I sincerely doubt that Factory Orders (exp 1.0%) are going to change any views, and given the Fed meeting Thursday, we still have silence from the FOMC. While I would not fight the tape today, I still do not see the appeal of a short dollar position for the medium term.
Good luck and stay safe