by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT]

Our newest podcast episode, “The Long-Term Effects of COVID-19,” is available.  In this episode, we discuss how the COVID-19 pandemic will likely accelerate the reversal of the equality/efficiency cycle toward equality.

Good morning and happy Monday!  Global stocks are mixed; Europe is lower on disappointing German data, while U.S. equity futures are ticking higher.  Tropical Depression Cristobal hit Louisiana over the weekend and remnants are expected in St. Louis on Tuesday.  The Fed meets this week; we will get forecasts and maybe a dots plot.  Brexit fears are rising; we look at the looming trade deadline and other European trade issues.  We update on China and touch on its trade data.  The U.S. is pulling troops from Germany.  OPEC+ has a deal and oil prices are higher.  We update COVID-19, focusing on U.S. and global reopening from lockdown.  Additionally, we have some Monday charts!  Here is the update:

Policy news:  The Fed meets this week.  There is absolutely no mystery on the policy rate; since the FOMC has made it clear it doesn’t want negative fed funds, there really isn’t more to be done on that front.  Instead, we expect the debate to be over yield curve control.  This isn’t exactly new for the Fed; during WWII, the central bank fixed rates across the entire yield curve to control Treasury borrowing costs.  However, the impact of such control would be significant.  For example, the Treasury curve would no longer be a forecasting tool; we might be able to use the corporate curve, but even there, one would expect some relationship to the risk-free rate.  The other issue we will be watching for are forecasts for the economy and the policy rate.  The bigger issue here is that if the Fed goes this far, it has essentially ceded its independence.  It can get it back at some point, but it will be a war because no president wants to be in office when the Fed stops the stimulus.  Harry Truman would concur, we suspect.

Brexit and trade:  Although the actual exit date isn’t until year’s end, if the U.K. is going to ask the EU for an extension of Brexit negotiations, it must do so by June 30.  By all accounts, PM Johnson has made it clear that he will not ask for an extension, so the odds of a hard break are rising.  Trade officials and businesses are beginning to count the costs of a hard border with Europe.  A concern has been that British negotiators don’t seem clear on what they want from an agreement with the EU.  One of the benefits of a hard break is that the U.K. can make trade deals with other nations; Westminster is looking to make a deal with the U.S. in short order.  The U.S. has made it clear that such a deal would include U.S. agriculture, including the infamous “chlorine chickens.”  The issue of the U.S. and EU food regulation and trade is nothing new, but could become an issue when the U.S. and U.K. begin trade talks.

China:  A sharp decline in imports offset a drop in exports, expanding China’s global trade surplus.

Meanwhile, analysts are questioning China’s employment data, suggesting it is painting too rosy a picture of China’s recovery.  Recent policy statements seem to confirm this notion.  Lastly, China’s drive to semiconductor self-sufficiency has been lagging badly.

Foreign news:  The U.S. announced over the weekend that nine thousand U.S. troops will be leaving Germany.  Relations between Berlin and Washington have been strained for some time; while some commentators are suggesting this decision is supportive for Russia, that may not be the case.  Poland is hoping that the U.S. will move these forces to its soil.  The U.S. is threatening both the EU and China over lobster tariffs.  EU support has, for now, reduced financial stress in Italy.

OPEC:  As expected, OPEC and Russia have reached a deal to extend supply cuts.  Russia and Saudi Arabia were able to corral some of the smaller producers in OPEC, which have been overproducing; of course agreeing is one thing, cutting is another.

COVID-19:  The number of reported cases is 7,036,623 with 403,131 deaths and 3,153,223 recoveries.  In the U.S., there are 1,942,363 confirmed cases with 108,211 deaths and 506,367 recoveries.  For those who like to keep score at home, the FT has created a nifty interactive chart that allows one to compare cases across nations using similar scaling metrics.  The news surrounding the virus, across the world, is the next phase of the crisis—the reopening.  Europe is easing restrictions; British pubs are scheduled to reopen June 22.  As we are seeing in the U.S., there are regional differences, with some European nations opening to all travelers, others creating travel bubbles, allowing free entry of some nations, restrictions from others.  Meanwhile, in the U.S., New York is starting to reopen.  In the U.S., there is evidence that as social distancing restrictions ease, infections are rising.  This should be no surprise.  The point of the lockdowns were to control the rise of infections so the health system could cope.  However, the economic costs of the lockdowns were high and, barring a mutation in the virus that turns it into something with a fatality ratio similar to smallpox, we doubt we will see broad lockdowns repeated.  Thus, the fear of the “rise in autumn” that is often discussed is probably not that great of a risk to the economy.  Instead, we expect to see targeted measures, which would protect the most vulnerable from infection while leaving the rest of the economy to normalize.  In Brazil, the government is limiting the release of virus data.

Monday charts:  Here are three charts we have been working on.  First, Friday’s employment data raised great hopes that a recovery is underway.  We tend to agree with that idea; as we stated in a recent Asset Allocation Weekly, recoveries start when conditions stop getting worse.  Given the catastrophic drop in growth, it should be no surprise that conditions are improving.  However, it is important not to confuse the trough with the path of the recovery.  The economy is in a deep hole that will take a long time to dig out of.

In this chart, we index the level of employment to the peak before the onset of recession.  Each recession is measured to see how long it takes before the previous cycle high is met.  There is nothing in the postwar experience that matches what we are seeing here.  So, if policymakers take Friday’s data as a reason to hold off on additional stimulus, it could be an epic mistake.

Meanwhile, the recovery in equities has been surprising.  This chart shows the weekly Friday closes from the onset of recession; we rebased the S&P to the market peak prior to the beginning of each recession.

Two things are notable about the current cycle. First, the decline was the fastest in the postwar experience.  The cascading decline in February and March was extremely fast.  Second, the recovery has been remarkable as well.  Only two earlier recessions, the 2001 and 1956, have the index higher than we are currently.  The 2001 recession was very mild; the 1956 recession occurred during the Asian flu pandemic, although the drop was mostly attributed to monetary policy.  The 1956 recession was very deep but short, which is similar to what we are expecting.  Here is a note of caution; the average line shows that sideways performance tends to follow once the initial bounce occurs.  We would not be surprised to see markets consolidate at some point.  On the other hand, we have never seen this degree of policy support in the postwar world.

 

Finally, this is the weekly S&P chart compared to retail MMK fund levels[1]; the orange bars show periods where MMK fell below $920 billion, which tended to coincide with market consolidations.  We have been noting rising caution among retail investors since 2018 when the trade conflict with China escalated.  Even with the strong rally in equities from Q3 2018 into Q3 2019, retail MMK continued to rise.  Cash levels have continued to rise through the recent decline and recovery in the S&P.  Note that the bull market that began in March 2009 was fueled by a decline in retail MMK; if a similar pattern develops in this cycle, we could see further gains in equities.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT]

Our newest podcast episode, “The Long-Term Effects of COVID-19,” is available.  In this episode, we discuss how the COVID-19 pandemic will likely accelerate the reversal of the equality/efficiency cycle toward equality.

Good morning and happy employment Friday!  We go into the details below, but the quick snapshot is that the numbers are much better than forecast and mostly confirm the ADP data from earlier in the week that was stronger than expected.  Global equities are mostly higher this morning as optimism over economic reopening and policy support continues.  China remains in the news.  As usual, we update what we know about COVID-19.  There was an Iranian prisoner swap.  This week’s Asset Allocation Weekly (AAW) is posted; this week’s report shows how the equity markets recover before the peak in unemployment.  Onward!

China:

• Although details are lacking, China is apparently considering a $28 billion backstop to the banking system.
• Despite the ban on demonstrations, protestors in Hong Kong defied their government and turned out in force to remember the Tiananmen Square anniversary.
• The Xi regime is apparently concluding that the costs of seeing the West isolate Hong Kong is worth bringing it under control. This decision suggests Beijing may have been worried that its major cities might push for similar democratic measures if Hong Kong retained its degree of independence.  Given how much this move will likely cost China, either the government is underestimating how much it will cost or the government was very worried about Hong Kong’s defiance.  We suspect the latter is the case.
  • According to reports, the White House isn’t considering direct sanctions on President Xi over Hong Kong.
  • China is clearly making an attempt to separate the EU from the U.S. through trade and investment. Although the U.K. has been remarkably aggressive in opposing Beijing’s policy changes in Hong Kong, the EU has been reluctant to criticize.
• Secretary of State Pompeo praised NASDAQ (NDAQ, 117.93) rules on Chinese-listed companies, calling them a “model” for the rest of the world.
• Facebook (FB, 226.29) is putting labels on state-controlled media pages, essentially putting a warning on feeds from such sources.
• Recent data from the Peterson Institute makes it abundantly clear that China is nowhere close to meeting its Phase 1 commitments. We believe that it is just a matter of time before the administration concludes that China is failing on the deal; it remains to be seen what reaction will occur.  However, as we have always said, watch USTR Lighthizer; if he leaves, it would suggest he believes the administration won’t follow through on changing the trade relationship with China.

Foreign news: 

• The U.S. and Iran engineered a prisoner swap. Iran released Michael White, a Navy veteran who had been detained while visiting Iran.  The U.S. deported Sirous Asgari, a scientist who was detained on charges of violating U.S. sanctions.  Although relations between Iran and the U.S. remain tense, the fact that this swap occurred does suggest backchannel contacts are operable.
• One of our concerns with any administration is the problem of bandwidth. A government can find itself under great strain due to multiple simultaneous problems.  That is what the Trump administration is facing currently.  The deteriorating relations with China, trade issues with the EU, civil unrest at home, the pandemic—it’s a lot happening in real time.  It is under conditions of stress that foreign nations try to take advantage of the distraction in Washington.  We note that recently Iran and Venezuela jointly violated U.S. sanctions; so far, neither has seen any retaliation.  Expect more problems to develop in the coming weeks.  We are watching North Korea and Russia to see if they try to take advantage of the situation.
• A major diesel fuel spill has occurred in Siberia.
• When political systems fracture, fringe groups emerge. The latest in Italy is dubbed the “orange jackets,” a movement with overtures to France’s “yellow jackets.”  This new movement is so extremely populist that the League party won’t affiliate with it.  Although sympathizers with such political extremes always exist, it is during periods of turmoil that they can coalesce into political movements.

COVID-19:  The number of reported cases is 6,658,334 with 391,588 deaths and 2,886,183 recoveries.  In the U.S., there are 1,872,334 confirmed cases with 108,211 deaths and 485,002 recoveries.  For those who like to keep score at home, the FT has created a nifty interactive chart that allows one to compare cases between countries, scaled by various variables.

Policy news:

• The expanded unemployment benefits of $600 per week expire at the end of July. There is a debate on whether they should be extended.  The Congressional Budget Office has weighed in on the debate.  Its research suggests that over 80% of recipients would get more in benefits than they would earn working and that extending the benefits would likely lead to lower growth this year.  However, not extending the benefits will lead to lower growth and employment in 2021, most likely because the growth and employment occurred in 2020.  Our read on the report likely means the expanded benefits probably won’t be extended.
• Chile is asking the Fed to extend swap lines to the country and is asking the PBOC to increase the swap line with China.

Economy news: 

• As we have been noting, the next area where we expect support to be provided is commercial real estate. Businesses are not paying their rent and some landlords are taking legal action.  The uptick in business bankruptcies suggests that property owners are likely to see continued declines in rent payments and there is a chance this could cascade into lower property values and commercial mortgage defaults.
• OPEC has agreed to meet and will likely extend production cuts at least another month. Oil prices rose on the news.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT]

Good morning.  It’s ECB day!  The ECB continues to support the EU economy.  It’s June 4, the 31^st anniversary of the Tiananmen Square Massacre; we note China is playing up the current U.S. civil unrest as a counterpoint to Beijing’s actions in Hong Kong.  Global equities are mostly lower this morning, as risk markets take a breather from recent strength; however, we have seen some recovery on the ECB news.  We cover the ECB meeting and look at the latest with China.  As usual, we update what we know about COVID-19.  We have a new Weekly Energy Update, with a special look at natural gas. Let’s get to it…

ECB:  In its prepared statement, the European Central Bank announced it will expand its emergency QE by €600 billion.  Interest rates remained unchanged.  It also said purchases will continue into June 2021.  Market reaction was swift; as the global risk-on rally has been supported by central bank action, news of the ECB’s move lifted global equities.  In something of a surprise, the EUR rallied as well.  Usually, QE is bearish for a currency.  In the press conference, ECB President Lagarde didn’t offer any major surprises

China:  Lots of China news:

• On the 31^st anniversary of Tiananmen Square, China has reacted by quashing usual memorial ceremonies in Hong Kong. Despite the crackdown in Hong Kong, protests continue and security forces have reacted with arrests.  China is deflecting the usual annual criticism by pointing to the current unrest in the U.S.
• PM Johnson has indicated he will admit 3.0 million Hong Kong residents to live in the U.K. with a potential path to citizenship if China implements its national security law. Beijing is not happy with the development.
• One of the features of Hong Kong compared to the rest of China is that the former was less affected by China’s “Great Firewall.” Tech companies put virtual private networks (VPN) in Hong Kong to prevent Beijing from interfering in internet traffic.  There are growing worries that the new national security law will put Hong Kong within the firewall and thus implement censorship.  Of course, there are also worries that the new law will stifle free speech.
• So far, China has not reacted strongly to the U.S. actions taken with regard to the national security law. It may be that Beijing wants to see what the U.S. will actually do; if the response remains mild, it may signal that China feels the actions taken by the U.S. are not significant.
• The U.S. has threatened to block Chinese airlines from coming to the U.S. as China has denied American airlines from flying to China. This morning, China relented and will allow limited flights by international carriers.
• It is evident that the Chinese economy has been hit hard by the trade war with the U.S. and the pandemic. Thus far, the policy reaction has been rather subdued.  We note that the central government announced it will send money directly to local governments, a sign Beijing is growing worried about slowing growth (and rising unemployment).
• Huawei (002502.SZ, CNY 2.900) has been having a tough run of news recently. As we reported last week, the CFO lost her bid to avoid the extradition process as a Canadian court ruled she must stand for the proceedings.  There is confirmation that the company did, in fact, evade U.S. sanctions on Iran (which is why the CFO is under house arrest).  The U.K., which was open to restricted use of the company’s products in its 5G network, is reversing course in the aftermath of Hong Kong and strong U.S. pressure.  All this is bad news for the company.
• China has cancelled some U.S. farm shipments, increasing the odds it will fail to meet its Phase One agreements.
• The U.S. is expected to designate at least four Chinese state-run media companies as foreign embassies, which will restrict reporters’ ability to operate.
• A new bill is circulating in the Senate that would restrict foreign access to U.S. research.

Civil unrest:  The widespread civil unrest is further delaying the reopening of small businesses.

Foreign news: 

• Germany has unveiled a second COVID-19 stimulus package of €130 billion, bringing Germany’s total fiscal spending to €3 trillion. Given the degree of German stimulus, we will be watching to see if Germany’s trade surplus reverses as slower-growth Eurozone nations send exports to Germany.  If this continues, it would suggest that Germany is taking on a regional hegemonic role, a reversal of previous behavior.  The EU has been aggressive in spending during this downturn.
• PM Johnson and European Commission President von der Leyen are likely to engage in direct talks to break the current deadlock on a new trade deal.

COVID-19:  The number of reported cases is 6,530,067 with 386,392 deaths and 2,820,488 recoveries.  In the U.S., there are 1,851,520 confirmed cases with 107,175 deaths and 479,258 recoveries.  For those who like to keep score at home, the FT has created a nifty interactive chart that allows one to compare cases and fatalities between nations, scaled by population.  Axios has updated its U.S. infection map.

• The good news:
  • When thinking about a problem, it is helpful to know more about the issue one is trying to resolve. For the most part, medical researchers have been treating COVID-19 as primarily a respiratory disease.  This led to the crash production of ventilators and the search for antiviral medicines.  However, there is growing evidence that although the virus spreads through the lungs, the biggest impact may be vascular.  The virus’s primary impact may be to infect the endothelial cells in blood vessels.  When these cells become inflamed, it could lead to microclotting and would explain the wide variety of symptoms.  Unlike seasonal flu or SARS, which tend to remain in the lungs, COVID-19 spreads throughout the body, causing damage to kidneys, conditions close to frostbite in toes, and strokes.
    • If this is how the virus works, the best protection may come from ACE inhibitors, statins and blood thinners. There are trials now underway to see if losartan, a common high blood pressure drug, may prevent the worst symptoms of the disease.  In other words, if taking cardiovascular medicine prevents fatalities and hospitalizations, we could treat COVID-19 with common drugs and extreme measures to avoid the disease may not be necessary.
  • Scientists are studying patterns to see if there is a genetic basis that might explain the wide variation seen in the reaction to infection. There is evidence to suggest that there are sizeable numbers of asymptomatic cases and, at the same time, fatalities.  If a common genetic threat could be found, it may allow for less stringent lockdowns and could help in determining who should get vaccinated before others.  A recent European study suggests that having Type A blood increases the likelihood of a more serious reaction to infection.
  • The U.S. has selected five firms as vaccine finalists. Narrowing the list will allow the government to focus its efforts on producing a vaccine once an effective candidate emerges.  In related news, Eli Lilly (LLY, 152.53) is testing a new drug that is derived from antibodies developed from patients infected with the virus.
• The bad news:
  • When I was in the Jesuits (Bill talking here), one of “ours,” a missionary in Belize, had suffered an auto accident. He recovered from his injuries with one problem: he had no sense of taste.  Although he would get hungry, he was completely indifferent to what he ate.  It led to some rather odd dinner situations.  The loss of taste and smell is noted as an effect of COVID-19 and some cases indicate the change may be long-lasting.
  • Sweden’s social distancing policy was more relaxed than what was seen elsewhere. The primary leader behind that policy has admitted the policy probably wasn’t strict enough, allowing for too many fatalities.
  • Recent studies confirm what the anecdotal evidence suggested: nursing homes have been especially hard hit by COVID-19.

Policy news:

• Europe is unveiling new digital services taxes, which the U.S. views as unfairly targeting American tech firms. So, the U.S. is considering tariff retaliation if the EU continues toward implementing such taxes.  In related news, the EU is also considering changing the rules for online content, making social media firms accept greater accountability for content.
• The Fed’s direct lending program to business has had few takers, in part on borrower concerns of the stigma of taking federal money. Overcoming this issue has been a persistent problem with direct government lending.  During the 2008 financial crisis, the Fed and Treasury forced the major banks to take funding to avoid this problem.
• Meanwhile, Illinois has decided to tap the Fed’s municipal bond program with an issue of $1.2 billion of one-year notes.
• The DOJ has indicted executives in the chicken processing industry for price fixing. Consumers have been complaining about high meat prices for some time; this move by the government may partially explain why prices have been elevated.

Finance news: 

• The Labor Department will allow private equity into 401k programs.
• Japanese regulators are warning banks about their positions in U.S. CLOs. Japanese banks, in a search for yield, own about 20% of this U.S. market.  Fears over credit quality triggered the warning.

Economy news: 

• Although businesses are starting to reopen, factories are finding their supply chains are disrupted, which is hampering their ability to ramp up output.
• As noted before, we continue to closely watch for “gaps” in the supply/payment chain that could disrupt the financial markets. One  area of concern is rent payments.  Small businesses that have been closed are unable to make their rent.  This loss of payment is a risk to landlords, who face their own creditors.  We expect that either the Fed or Congress will need to inject funding to support this part of the economy at some point; if support doesn’t occur, it may raise the risk of economic disruption.
• Another area of concern is small non-bank lenders; these firms may need to raise capital in the coming weeks or be forced to reduce their lending.
• As the rich world economies weakened, foreign remittances from workers sending money home to the emerging markets have collapsed. This drop is having a negative impact on EM economies.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT]

Our newest podcast episode, “The Long-Term Effects of COVID-19,” is available.  We continue to build on themes discussed in the previous episode, “The Lessons of History,” in which we examined the effects of earlier pandemics.  In this episode, we discuss how the COVID-19 pandemic will likely accelerate the reversal of the equality/efficiency cycle toward equality.  Deglobalization is a key element of that shift.  Although we believe the world has been steadily moving toward equality, this pandemic is moving the process forward.  The eventual outcome is higher inflation, although it may take several years for higher price levels to become evident.

Turning to the latest news, it appears the U.S. civil rights protests eased notably last night, but risk assets are rallying today mostly on optimism regarding an eventual coronavirus vaccine, a potential recovery in the economy and labor market, and additional monetary and fiscal stimulus.  We discuss all the key developments below.

United States:  The latest reports suggest the intense civil rights protests of the last week eased somewhat on Tuesday night, possibly because many cities toughened their curfews and state and local officials began taking action to address protestors’ anger over law enforcement practices and a perceived impunity for police brutality.  In Minnesota, where the protests first erupted, Governor Tim Walz said the state is launching a civil rights investigation into “systemic discriminatory practices” by the Minneapolis Police Department.  State officials also said the economic cost of the violence in Minnesota alone was at least $1 billion, not including the impact of lost jobs and looting.  As we’ve mentioned previously, investors have generally overlooked the violence on the assumption that it will be short-lived.  The more salient issue is that the violence could have political implications for the November elections.  If the protests continue to ease, the political impact will become less likely.

COVID-19:  Official data show confirmed cases have risen to 6,411,023 worldwide, with 380,880 deaths and 2,750,891 recoveries.  In the United States, confirmed cases rose to 1,831,821, with 106,181 deaths and 463,868 recoveries.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• The administration’s top infectious disease official, Dr. Anthony Fauci, said the ability of the human body to naturally overcome COVID-19, in most cases, is strong evidence that a protective vaccine can be developed for the disease.  In fact, he expressed cautious optimism that several successful vaccine candidates would prove effective “within a reasonable period of time.”  In his view, the key question is how long those vaccines will be effective.
• Still, despite the progress on vaccines and treatments, and falling infections in most major developed countries, cases continue to surge in many large developing countries.  India reported a fourth straight day in which new, confirmed cases of COVID-19 exceeded 8,000, bringing the country’s cumulative total to more than 200,000.
• In Iran, daily infections have now rebounded almost back to their highs from late March.  Despite the rebound in infections, however, Tehran continues to ease the lockdown measures that helped push the caseload lower over the last two months.
• Just weeks after a staggered reopening of schools in Israel, a surge of infections has forced the government to quarantine around 10,000 students and teachers.  The outbreak has also pushed the country’s new infections to almost 100 cases a day for the first time since early May, close to the threshold at which health officials have indicated some lockdown restrictions would be re-imposed.  This development is important because it undermines a growing sentiment around the world that young people’s relative lack of susceptibility to COVID-19 means schools and universities can safely reopen.

Real Economy

• Even though the OPEC+ group of oil-producing countries is expected this week to extend its massive output cut of 9.7 million barrels per day to early autumn, Saudi Arabia is reportedly so confident that the cut has helped restore order to the market that it will soon reverse its supplemental cut of 1 million barrels per day.  Nevertheless, the expected extension of the baseline cuts continues to buoy crude prices.
• In New Zealand, Prime Minister Ardern released details of a possible loosening of restrictions that would mean the country’s businesses could return to normal with no gathering limits, or social-distancing requirements as early as June 10.
• Sweden’s top epidemiology official, Anders Tegnell, said in an interview that even though the country’s relatively light coronavirus lockdown helped minimize the damage to the Swedish economy, the government should have imposed tighter restrictions to avoid having such a high death toll.  The government said on Monday that it would appoint a commission to investigate the country’s approach to the pandemic, bowing to pressure from opposition politicians.

Financial Markets

• While the U.S. yield curve as measured by the 10-year Treasury versus the 2-year note or the 3-month bill has recently held steady, with both spreads in the range of 50-60 basis points, the less popular 30-year/5-year spread has widened to almost 120 basis points for the first time since 2017.  Traders ascribe the widening to a greater supply of longer-term debt and moderating Fed purchases due to the relative stabilization in the economy.
• Ten weeks after the Fed calmed the corporate bond market by promising to buy up to $750 billion of individual businesses’ debt obligations, not a single company has signed up for the program.  The Fed’s sole purchases in the market have been $3 billion in corporate bond ETFs.  Echoing the traditional reluctance of banks to access Fed backstops, it turns out that companies are reluctant to sign up for Fed purchases because such a move could be seen as a sign of weakness during the market’s rebound.

U.S. Policy Response

• President Trump will meet this week with his top economic advisors to discuss policy options for the next economic support bill.  Although the scope of the plan is still in flux, reports suggest a wide variety of measures are under consideration:
  • One top focus will be on ways to encourage people to go back to work, including a proposal to cut the federally funded enhanced unemployment benefit from $600 per week now to as little as $250 per week through the second half of the year.
  • The administration is also discussing a tourism tax deduction, or credit for people who take a vacation somewhere in the U.S. in the next three to six months.
  • The president and his aides also continue to push proposals for which they have long been advocating, including a payroll-tax holiday and a capital-gains tax cut.
  • A longer-term priority will be measures to encourage companies to do business in the U.S., including making certain rules permanent that allow firms to deduct the cost of relocating manufacturing operations from China and other countries.

Foreign Policy Response

• As Europe continues to play catchup with the aggressive monetary and fiscal programs put into place by the U.S. to support the economy during the coronavirus crisis, the ECB is expected to unveil some €500 billion in additional bond purchases at its policy meeting tomorrow.  That would boost its total firepower to almost €1.5 trillion, or $1.68 trillion, putting it on a par with the U.S.’s spending plan and setting the stage for the central bank to buy most of the new debt that Eurozone governments will issue this year to fight the crisis.

United States-Venezuela:  The Trump administration further increased its economic pressure on the Venezuelan government by imposing sanctions on four shipping firms allegedly involved in supplying the country with fuel products.

United States-China: Adding to the general trend of U.S.-China decoupling, Senator Rob Portman (R-Ohio) and Senator Tom Carper (D-Del.) today plan to introduce legislation to stop China and other “malign state actors” from stealing U.S. taxpayer-funded research at universities by enhancing the authority of federal agencies to monitor and punish the schools and scientists.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT]

The general uptrend in risk assets continues to stem mostly from the gradual easing of coronavirus lockdowns and progress on vaccines and treatments.  Today’s market action also reflects signs that the major oil-producing countries will extend their production cuts, which has boosted crude oil prices.  Those developments continue to outweigh the violent civil rights protests in the U.S., though we note that the demonstrations do carry political risks.

United States:  With civil rights protests continuing to devolve into violence across the country, President Trump yesterday said he would deploy military forces to take control of the situation in Washington, D.C. and other cities if state and local governments don’t “take the actions that are necessary to defend the life and property of their residents.”  The federal troops would be in addition to the 67,000 National Guard troops already called up by the states.

• It wasn’t immediately clear whether Mr. Trump had invoked the Insurrection Act, a law that allows a president to deploy the military in response to civil unrest. If he did invoke the law, it would be the first use of active duty military troops to quell civil disorder in nearly 30 years.
• Although the financial markets typically look past such protests in the U.S., as they’re generally short-lived, the current riots bear watching because they have implications for the November elections.  It’s easy to imagine the violence is a spontaneous outpouring of anger related to law enforcement practices, a perception of impunity for police brutality and the frustrations of the long coronavirus lockdown.  However, reports also suggest the violence is being further fueled by extremist groups on both the far right and the far left, which politicians are sure to try to exploit for their own gain.  Just as important, the deployment of National Guard and federal troops raises the risk that someone with a happy trigger finger could spark bloodshed.  In Kentucky, police and National Guard troops killed one man on Sunday night, and here in St. Louis, four police officers were hit by gunfire last night.  Any situation in which federal troops killed multiple protestors would likely morph into an even greater political controversy.
• The rioting also has implications for international politics.  Chinese officials and state media outlets have already savaged the Trump administration’s response to the protests, describing the president as a hypocrite after he supported Hong Kong’s demonstrations.  China’s foreign ministry sent a taunting tweet to the U.S. State Department simply saying, “I can’t breathe.”  Other reports say Russia and China are both flooding social media with content criticizing the U.S. for its handling of race issues.

COVID-19:  Official data show confirmed cases have risen to 6,294,222 worldwide, with 376,177 deaths and 2,714,922 recoveries.  In the United States, confirmed cases rose to 1,811,277, with 105,147 deaths and 458,231 recoveries.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• There are concerns that mass civil rights protests across the U.S. could spark renewed coronavirus outbreaks that may require the re-imposition of lockdowns.
• Japan and South Korea both reported more than 30 new COVID-19 infections, with many cases found in people who had visited newly reopened restaurants, bars, and other entertainment venues.
• India has now reported 8,000 or more new infections for three straight days, underlining how it has become a major pandemic hotspot along with countries like Brazil and Russia.  Because of surging cases in large, less-developed countries such as these, along with increased testing in many developed countries, total global infections are now showing a distinct uptrend beginning in mid-May.

Real Economy

• The Congressional Budget Office said the sharp contraction triggered by the coronavirus caused it to mark down its 2020-30 forecast for U.S. economic output by a cumulative $7.9 trillion, or 3% of GDP, relative to its January projections. GDP isn’t expected to catch up to the previously forecast level until the fourth quarter of 2029.
• Although yesterday’s May ISM Manufacturing Index for the U.S. showed a modest rebound to 43.1, from 41.5 in April, the figure continues to be distorted by the sub-index on supplier deliveries.  The ISM indexes and sub-indexes are designed so that readings over 50 point to expanding activity.  The sub-index on supplier deliveries is higher when deliveries are slower, on the assumption that delivery delays reflect high activity and bottlenecks.  However, in the coronavirus crisis, deliveries are slow and the supplier delivery index is elevated in large part because of lockdowns.  Therefore, we think we can get a better feel for the true level of activity by looking at our own, proprietary estimate of the overall ISM index excluding supplier deliveries.  As shown in the charts below, that measure rebounded only to 36.9 in May from 33.0 in April, suggesting factory activity continues to contract sharply.

Financial Markets

• The OPEC+ alliance of oil-producing countries led by Saudi Arabia and Russia is nearing a deal to extend their coronavirus production cuts to September 1.  The current deal, which aims to cut the group’s total output by 9.7 million barrels per day, begins phasing out on July 1.  Delegates will meet to discuss the move on Thursday, sparking a notable rally in crude prices so far today.
• In less positive news, reports show the coronavirus crisis is disrupting Italy’s longstanding program to clean up the banking system’s pile of nonperforming loans by packaging them into securities and selling them to investors.
• According to the Institute of International Finance, foreign investors withdrew a record $11.8 billion from Brazil’s stock market in the four months from February to May, and $18.7 billion from its bond market between February and April (the most recent period for which data is available).  The capital outflows, which the IIF ascribed mostly to Brazil’s coronavirus crisis and political chaos surrounding President Bolsonaro, were in contrast with a modest recovery in inflows in many other developing countries.
• According to data provider Trepp, 7.4% of U.S. commercial property loans were delinquent in May, up from 2.3% in April.  Another 8.6% were in their 30-day grace period after initially missing a payment.  The figures underscore the growing threat to commercial mortgage-backed securities the longer the coronavirus disruptions last.

Democratic Republic of Congo:  The government has declared a new Ebola epidemic after it identified six cases in the west of the country, far from the previous outbreak in the east.  The outbreak is the country’s fourth in the last three years and the 11^th since the first cases were detected in 1976.

Russia: President Putin announced the vote on constitutional revisions that would allow him to remain in power for up to 16 more years will be held on July 1, after being postponed by the coronavirus crisis.  Actual voting will begin a week before the official ballot date.

Russia:  After three medical doctors mysteriously “fell” out of windows in recent months, raising suspicion that they were assassinated for resisting or exposing government missteps related to the coronavirus crisis, now a female police forensic officer has fallen out of a window at a hospital where she was being treated for the virus.

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