by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Our Comment opens with a few words on the apparent rebound in risk-asset markets so far today. We next review several other international and US developments that could affect the financial markets, including an update on the war in Iran and further evidence that the US administration wants the federal government to take ownership stakes in major companies involved with artificial intelligence.

US Stock Market: After Friday’s rout across risk markets, including a 4.2% drop in the NASDAQ price index, US stocks look set for a significant rebound today. That makes sense to us, as Friday’s strong data on nonfarm payrolls, which helped spark the sell-off, was likely distorted by hospitality firms and local governments going on a hiring binge to prepare for the World Cup. Other parts of the employment report were tame, such as modest wage growth and continued weakness in the number of workers saying they’ve found jobs.

• It’s true that the Federal Reserve is now much less likely to cut interest rates as much as we previously thought over the rest of the year.
• Nevertheless, it’s probably too early to assume that rate hikes are coming due to new Fed Chair Kevin Warsh taking over.
• Of course, the other major source of the stock-market volatility late last week was concern about the future of the artificial intelligence business. That issue is likely to remain a source of risk and volatility going forward.

United States-Israel-Iran: Over the weekend, Iran launched attacks on Israel for the first time since the current ceasefire took effect in April, saying the strikes were to retaliate for Israeli attacks on the Iran-aligned Islamic militant group Hezbollah in Lebanon. Israel responded with its own attacks on Iran, including a strike on Iran’s energy infrastructure. The strikes threatened to undermine the ceasefire, but both Iran and Israel today said they would suspend their attacks. Restoration of the fragile truce is likely also supporting stock prices so far today.

United States-Israel: Reports over the weekend said the Defense Intelligence Agency (DIA) has raised its threat assessment of Israeli espionage against the US to the “critical” level. Israel has long been known as an especially aggressive espionage threat, but the reports say it has now gone so far as to install spying software on telephones and computers of US military personnel in Israel and has tried to install listening devices at DIA headquarters in Washington and in a Secret Service vehicle. The DIA action could further fray US-Israeli relations and disrupt the war against Iran.
Japan: Confirming our view that Japan could rapidly become a major arms exporter now that it has dropped its decades-long ban on selling lethal weapons abroad, Tokyo late Friday said it has entered negotiations to sell modern Asagiri-class destroyers to Indonesia. That follows previous reports that Japan will sell Mogami-class frigates to Australia and is in talks to sell anti-ship missiles to the Philippines. The rapid spate of deals since dropping the arms export ban in April suggests Japan’s heavy industries and their suppliers could see a flood of new defense orders.

South Korea: The Bank of Korea and the Financial Supervisory Service today ordered the country’s major banks to take stronger steps to prevent their clients from engaging in “speculative market-disrupting behavior” that capitalizes on a weaker currency. The order comes as the won continues to depreciate in response to higher fuel import costs and the risk of higher interest rates in the US. The won has now lost 11.4% of its value against the dollar over the last year, despite a technology-driven jump in South Korean exports.

China: Chang Xin Memory Technologies (CXMT), China’s leading producer of dynamic random-access memory (DRAM) semiconductors, reportedly won approval last week for an initial public offering in Shanghai. Meanwhile, Chinese flash-memory champion Yangtze Memory Technologies Corp. (YMTC) reportedly began IPO preparations and could formally submit a listing application later this month.

• The potential IPOs suggest Chinese memory makers could soon become more serious challengers for South Korea’s world-leading makers, such as Samsung and SK Hynix.
• Of course, China’s typical trade strategy would suggest that the government will heavily subsidize CXMT and YMTC to help them eventually gain a dominant position in the global memory chip market.
• If successful, that would give China yet another key source of economic leverage over the US and its allies.

United States-China: President Trump’s eldest son, Donald Trump, Jr., late last week warned against investing in China, mostly because its legal system is tilted against foreigners. He added that, “I don’t think we can pretend they’re an ally. That would be, I think, foolish.” The same day, US Agriculture Secretary Brooke Rollins testified before Congress that dependence on China for food, fertilizer, and other agricultural inputs poses an “existential” threat to the US.

• The statements come as President Trump continues trying to establish a kind of détente with China after its bruising pushback to his tariff war last year.
• The statements illustrate how, despite the president’s effort to cool tensions, many investors, businessmen, economists, and policymakers see risk in drawing too close to Beijing.

India: The youth-oriented Cockroach Janta Party (CJP), which has drawn millions of followers after starting out as a joke on social media, held its first real-life protest march in New Delhi on Saturday. The move from social media to real life suggests that the Cockroaches, as they have become known, could become a viable opposition movement against Prime Minister Modi and his increasingly repressive Hindu-nationalist government. If so, it could undermine policy stability in India and potentially damage the country’s improving investment environment.

US Artificial Intelligence Industry: President Trump on Friday provided further evidence that he may push for the government to take ownership stakes in major AI firms, telling reporters that, “There’s something very interesting about it, where it almost becomes a partnership with the American public.” While the president appeared to base the idea on the opportunity for US citizens to participate in the vast value creation some expect from the technology, industry leaders also believe public ownership could ease public opposition to it.

• Of course, government “ownership of the means of production” is one definition of socialism, an epithet that right-wing politicians often apply to left-wing policies. Indeed, Democratic Socialist Sen. Bernie Sanders has proposed that the federal government take 50% ownership stakes in top AI companies.
• On the other hand, populist policies that focus on the interests of working-class people are increasingly embraced by both the right and the left. Indeed, when asked about the Sanders proposal, Trump responded, “As far as economics is concerned, we have certain things that aren’t that far apart. People are surprised.”

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