Fed minutes released yesterday showed that the Fed was closer to raising rates than many expected, which is lifting expectations that the central bank could hike before the end of the year. Three members wanted to raise rates immediately, but they were held off in a “close call”. The big consideration is the job market and whether it had strengthened enough to push inflation towards the Fed’s 2% goal. However, the other two considerations are harder to measure—the market’s preparedness for a hike, and how the US election might affect the economy. On the first point, the Fed even explicitly discussed the market’s odds that it would hike in September, a point that does not always show up in Fed minutes. The market thinks there is about a 65% chance the Fed will hike by the end of the year, but November looks unlikely because the meeting is the week before the presidential election. But depending on how that goes, it could prove a big hindrance to a hike.
FINSUM: The only election situation in which we think the Fed will still hike this year is a Clinton presidential victory and a Republican congressional victory. Markets would react mutedly or favorably to that, which would not scare off the Fed. In any other scenario, which seems less likely right now, the Fed would likely be derailed.
Source: Wall Street Journal
Make no mistake about it, the Fed minutes from last month’s meeting today are a big risk. Economic data is a big driver of the market right now, and nothing could be more important than the Fed’s attitude on rates. If the minutes show a very hawkish Fed, then expect some volatility as investors interpret the odds for more and faster rate hikes. If the notes are dovish, expect gains. The minutes may include the Fed’s views on how the tax cut will affect the economy, which is another x-factor.
FINSUM: The market seems have grown slightly less worried about higher rates over the last couple of weeks, which we were readily expecting. But this could still be a risky minutes release.
Labor unions have long been a hallmark of developed economies. While their power has been on the decline for decades in the US, they are still a principle part of the labor market. Now, with their grip already in decline, they might be dealt a death blow by the Supreme Court. The court is about to hear a case on whether it is constitutional for labor unions to require government workers to fund the unions which represent them. Because of the decline in private sector unions, about half of all US union membership is now held by government employees, so a ruling against mandatory union dues could likely spark the end of American unions as we know them.
FINSUM: The decline of unions has been a complex and long-term affair. Aside from this case, we wonder if the power of unions might increase or decrease as automation takes further hold of the workplace.
Bank of America just put out a weird warning that caught our eye. The bank—the largest retail bank in the US—said that it may face “substantial costs” as it deals with cryptocurrencies. In its SEC filing, the bank warned that cryptos were one of its risk factors for investors. The bank elaborated, saying “The widespread adoption of new technologies, including internet services, cryptocurrencies and payment systems, could require substantial expenditures to modify or adapt our existing products and services”.
FINSUM: Was this reference to some future risk of business disruption, or does BofA have some exposure to cryptos that is not well understood? Certainly something to pay attention to.
There was supposed to be a landmark meeting between the US and North Korea at the Seoul Olympics. It should have been a chance to start a diplomatic reconciliation. Vice president Mike Pence was set to meet a delegation from North Korea at the South Korean version of the White House. But alas, it was not to be, as on the day of the meeting (which was scheduled for February 10th), the North Koreans backed out of the meeting, allegedly upset at Pence’s stern public speech on the country’s human rights record.
FINSUM: North Korea has done very well politically at these Olympics, mostly by “humanizing” themselves to the world. However, a real diplomatic engagement would have been a great step.
For the first time in half a century, Sweden is seriously prepping its country for the possibility of war. Growing national anxiety over the threat of Russia has led the government to send out 4.7m information pamphlets to all households informing them of what to do in the event of war. “All of society needs to be prepared for conflict, not just the military. We haven’t been using words such as total defence or high alert for 25-30 years or more. So the knowledge among citizens is very low”, says the government. The country is also considering whether it should join NATO.
FINSUM: The Baltics and Scandinavia are particularly exposed to possible Russian military aggression, so it makes sense they are nervous.
For those who aren’t aware, there have been some major sweeping changes in Saudi Arabia over the last few days. In a broad move to consolidate power, The Saudi Arabian king’s son has had dozens of princes throughout the country arrested. The arrests are being done as part of an anti-corruption drive by Prince Mohammed, but they are raising international eyebrows about the business climate in the country, especially as Prince Mohammed has said he will bring great reform. The big flurry of arrests also come just prior to the IPO of state oil company Saudi Aramco, and many think these moves will accelerate the outflows from Saudi assets which have already been occurring.
FINSUM: This seems like a very counterintuitive move from a prince who says he wants to reform the country and transition it away from reliance on the oil sector. Saudi Aramco just took a huge valuation hit.
Investors should be worried about US real estate. That is the conclusion of new data analyzing the US housing market. This worries are particularly high at the top end of the market, where a mountain of new luxury apartment inventory is about to hit the market at a time when vacancy rates are already rising. As a result of the glut, banks have been tightening credit lines to developers, and previously planned projects are stalled. Rental inflation also appears to have peaked, all of which has weighed on residential REITs.
FINSUM: This article paints a pretty bleak picture of US real estate, but on the flip side, the low end of the market seems like it will stay strong as first-time Millennial buyers keep things buoyant.
Source: Wall Street Journal
Despite a seemingly very hawkish Fed, bond traders just aren’t buying it, according to Bloomberg. Traders think the economy is burning very hot, and that the Fed, despite rhetoric, is actually content to just stick to only gradual rate hikes. According to one CIO, “The bond market is telling the Fed we see rising inflation pressures and if you are going to be gradual and crawl into three more rate hikes this year we are not going to wait around”, continuing “The long end of the yield curve is tightening for the Fed”.
FINSUM: Fed minutes did not show that the bank was considering four hikes this year, and the market thinks they should be.
We are entering a period of rising rates. This is a fundamental change from the modus operandi of the last decade and represents a paradigm shift for markets and investors. Therefore, volatility looks likely to stick around for some time. Accordingly, investing in low volatility stocks, which have been shown to perform just as well, if not better, than stock market indices during periods of stress, seems like a good idea. Barron’s chooses the ten lowest volatility stocks on the market, a list which includes Aflac, Coca-Cola, Loews, PepsiCo, Berkshire Hathaway, and Procter & Gamble, among others.
FINSUM: Given the ground shifting beneath investors’ feet, having some allocation to low volatility stocks seems like a wise plan.
There has been a flourish of fiduciary rule-related activity over the last couple of weeks. While the SEC and DOL have been very quiet about their progress on a new rule, Massachusetts and other states have been busy prosecuting and formulating their own rules. Now, a new rule has emerged: Maryland is meeting today to decide whether to make a new rule that would compel all brokers (not just advisors) to adhere to a fiduciary standard. A Senator from Maryland says “In Maryland, we’re trying to do our part to protect our citizens from financial abuses”.
FINSUM: The DOL and SEC need to hurry up and get a new rule out, or at least do some handholding with the states to get them to delay their own rules. The leadership vacuum is causing a flourishing of state-based rules which will fragment the wealth management industry. That situation is helpful to no one.
Until the market downturn over the last couple of weeks, the oil price had been rising strongly for a period of several months. OPEC’s strategy to cut supply to the market seemed to have balanced supply and demand, which boosted prices. However, one big beneficiary of the cuts was the US shale industry, which has been boosting output to the highest levels ever. This big surge might be the ultimate unwinding of the price rise, however, as US output is surging to levels not seen since oil was at $100 per barrel. This is likely to once again flood the market with supply, sending prices back downward.
FINSUM: We think this oil output growth is unsustainable, both because it will lead to oversupply, but also because it will eventually crack OPEC’s resolve to contain their own output (as the benefits are disproportionately flowing to the US).
Some may like it, some may not, but there is no changing the fact that ESG, or the acronym used to describe various social, governance, and environmental considerations when investing, is now part of the mainstream. Asset managers large and small, recently led by BlackRock, are now using ESG as a key factor in their investing. One asset manager comments that “In general, companies with the strongest records on employee relations and environmental sustainability, for example, often have better financial performance over the long run than those with the weakest records … Do you really want to hold a carbon-intensive company that’s not thinking about [the risks?”.
FINSUM: The big news here is that ESG and other “responsible” funds have had better returns in recent years than conventional funds, so the old mode of thinking this area has poor returns needs to shift.
The new Apple iPhone X has gotten a lot of hype in media. Aside from all its new features, which are admittedly extensive, its ~50% price hike to $1,000 has received a great deal of attention. That price hike is testing a long-held economic principle which says that as prices for a good rise, demand falls. However, for the last 100 years there has been a view that rising prices could raise demand for certain goods because they amounted to “conspicuous consumption”, or saw their demand rise as prices did because owning them signaled wealth and status.
FINSUM: Apple’s new iPhone X, with a lofty $1,000 price tag, may just prove conspicuous consumption true.