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Issue 92: Bad Week for Biden

July 8, 2024

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This Week’s Highlights

  • Markets process Biden meltdown
    Incumbent President Joe Biden’s faltering performance in a June 27th debate against his opponent former President Donald Trump sent shockwaves through the political world, putting his candidacy in jeopardy and leading investors to wonder how they might position themselves for a second Trump term.
  • No surprises in June Fed minutes
    There was less drama in a readout from the most recent FOMC meeting, though disagreement is clear on which risk matters more for policy at this moment: inflation creeping back or a sudden slowdown in the US economy. On the latter point, Friday’s BLS data showed cooler June jobs.
  • Weak spending may give BoJ pause
    Data on Japan household consumption out last Friday fell far short of economists’ estimates, complicating the Bank of Japan’s decision as to when they’ll put in their next hike, with the risk of a slowdown in growth making it less likely the BoJ will tap the brakes again at its July meeting.
    The CIO’s Take:
  • Political risk is among the many we manage in our portfolios, and an objective view of the last week’s events in the US presidential race makes it pretty clear the implications of Trump reclaiming the White House merit more consideration. We see assets that do well under high inflation as a key to navigating his possible second term.
  • There’s almost no chance of another rate cut at July’s FOMC, with traders betting September will be the Fed’s next move. Although we like to see signs the economy’s cooling, including soft June labor market data out last Friday, we still don’t expect that next cut to come until nearer to year-end. July’s messaging will be a critical clue.​​​​​​
  • As for the BoJ, markets are likewise guessing when the bank will next move: though here we’re looking for a hike as evidence policymakers are comfortable deflation is beat and growth is back on track. With consumer sentiment still a bit weak, we don’t see a rate increase in July, and expect accommodative policy will continue for some time.

Bad Week for Biden

Panic after debate meltdown
Readers will note that we don’t often opine on US politics. Everyone’s got an opinion, and such charged debate—though the theater of it can be entertaining—doesn’t necessarily yield much information to assist investors in navigating the economy and markets. This week, however, we’re compelled to write about the situation unfolding after President Biden’s disastrous debate performance on June 27th, which has shaken up the Presidential race just months before polls open in November, and which has already had a noticeable impact on clients’ portfolios.


Traders betting Biden will drop out​​​
Though the 81-year-old president admitted himself he had “a bad night”, that probably understates things. In fact, the presumptive Democratic nominee now finds himself fighting not to win the election, but merely to preserve his candidacy among members of his own party. Betting market data shed light on just how stark a shift took place in the wake of the late-June debate, as Biden—who actually led Trump to win the election back in April—has now seen his odds fall below those of his own VP, Kamala Harris, suggesting a better than 50/50 shot he exits the race (see below).

Figure 1 After Disastrous Debate

Republican victory increasingly likely
​​Acknowledging he needs to step things up to reassure voters, President Biden has embarked upon a series of campaign rallies and press appearances, including a prime-time interview on ABC last Friday. Initial reactions have been underwhelming—consistent with the market data above—and we also see it as more likely than not Biden finds a way to leave the race, with Ms. Harris as his most probable replacement on the ticket. Regardless of who leads the Democrats forward, it’s hard to deny Trump is now the odds-on favorite to win in November.


Second Trump term likely inflationary​​
But our job isn’t to weigh in on US politics: there are plenty of TV and podcast pundits to take up that mantle. Rather, we want to explore the investment implications of an increasingly likely Trump victory. Thankfully, the former president hasn’t been particularly shy about his political aims, which include things like tax cuts, trade restrictions, mass deportations, pressuring the Fed to cut rates, and fiscal expansion—all of which would lead us to the conclusion that from a macroeconomic perspective a second Trump term would be particularly inflationary.


Money piles into “Trump wins” trade
​​In the short run, increased tariffs on Chinese goods and deportation of migrant workers could be expected to hit US growth, prompting the Fed to aggressively cut, even as expectations of elevated inflation and fiscal expansion put upward pressure on longer-term yields. The end result? Likely steepening of the yield curve—something that already started in the days following that first debate, as money managers began putting on the “Trump wins” trade. We’ve also seen the dollar strengthen and stocks sensitive to regulation outperforming following Trump’s surge.


Hard assets, tech could benefit
​​Longer-term, we see a second term for Trump boosting many assets that tend to do well in times of rapidly rising prices: hard assets, for example, which many see as an inflation hedge. Tech stocks could also benefit: not just from the an initial ‘risk on’ rally when the Fed cuts rates, but also because they tend to benefit from increases in productivity that allow companies to better absorb inflationary shocks. By contrast, old economy firms with greater sensitivity to rising costs—especially labor costs, given Trump’s favored trade and immigration policies—are likely to suffer.

FOMC Minutes Breakdown

Policy clues in June meeting transcript
Last Wednesday, the Fed put out minutes from its June FOMC meeting, leading us all to read the tea leaves in the hope of finding clues as to when the US central bank might finally kick off what everyone hopes will be the next phase of this monetary cycle: a pivot to easing. At last month’s committee gathering, members voted to leave the benchmark US policy rate at a two-decade high, where it has been since last July, with only one cut projected in 2024. The official transcript offers us insight into what led to that decision and what could change at future meetings.


On the surface, not much has changed
To the chagrin of those looking for profound revelations in those minutes, the Fed’s summary of deliberations didn’t bring much change in the big narrative. Members seem to agree that policy is “restrictive” and the US economy is “gradually cooling”, to be sure, but there was also consensus that “greater confidence” is required before the committee will be ready to commence the cuts. Despite a qualitative sense of ‘no change’, Bloomberg Intelligence quant analysis of FOMC meeting minutes sentiment suggests they’re moving in a dovish direction (see below).

Figure 2 Fed Needs More Evidence

Disagreement on principal risks
Despite broad agreement on the need for more data, there were differences of opinion on other points. For one thing, despite some prior Fedspeak suggesting we’ve hit a peak policy rate, there were officials at June’s FOMC touting the possibility of further hikes if a trend toward disinflation reverses, something many feared could be happening in Q1 of this year. There were other committee members worried about “unexpected economic weakness” that could call for urgent cuts—once again, a less favorable impetus for easing than the coveted ‘soft landing’ scenario.


June jobs data show economy cooling
Along the lines of that latter risk, minutes pointed to a recognition that the labor market has normalized such that any slowdown in demand could have a more pronounced impact on employment. Last Friday’s June jobs report out of the BLS indeed showed the unemployment rate ticking up from 4.0% to 4.1%, its highest level since late-2021. Despite 206K jobs added in June topping economists’ forecast of 190K, that was below the downward-revised May figure, and most job losses came in the ‘temporary help’ category, often thought a leading sign of economic weakness.


Still think first cut comes in Q4
So, what does this all mean for future Fed policy? We tend to align with the Fed that, although there are signs of a slowdown in growth, it will take more data to convince us inflation is comfortably on a path back to the bank’s 2% target. Recent months’ data, including June jobs, are a step in the right direction. That said, though futures are now pricing better than a 75% chance of a cut at September’s meeting, we still see the first hike more likely to come in December—but we’ll be looking closely to the July FOMC for signs the Fed may be sowing the seeds for a September move.

Thoughts on the BoJ

Japan policy in the spotlight
The US Fed isn’t the only central bank taking a data-dependent approach to monetary policy: it’s become more or less the guiding principle of modern central banking. Of course, since the onset of COVID in 2020, there have been unusually large moves in most countries’ data, and that’s led to quite a bit of action on the policy front. Japan is a market we follow closely, and one for which pandemic-era changes—including those related to inflation and its weakened currency—played straight into a big recent move by its central bank, the Bank of Japan (BoJ).


When will hikes continue?
​​​​​​In March, we wrote about the BoJ’s decision to raise its benchmark rate from –0.1% to a range of 0–0.1%—its first hike in seventeen years—and abandon its so-called ‘Yield Curve Control’ policy. Those decisions came after a weak yen and pandemic-related inflation led the nation’s economy out of deflation, culminating in the largest pay hike for Japanese workers in over three decades, revealed in the early-March Rengo survey. With another policy meeting coming up at the end of July, markets have been playing that familiar guessing game: When will the next hike come?


Consumer spending takes a hit
Last Friday, we got some data that complicated the BoJ’s decision-making. One of the risks to Japan’s growth is weakening consumer sentiment as rising prices pinch households’ budgets. Data from the internal affairs ministry showed that risk to be real, with household spending posting a 1.8% decline, versus analyst forecasts of a 0.1% increase. Policymakers expect this year’s wage hikes to boost consumption—and justify more hikes to keep inflation in check—though data show real consumer spending hasn’t yet gotten back on track (see below).

Figure 3 BoJ Unlikely to Hike

Debate among policymakers
In its mid-June policy meeting, as with the Fed, opinions among BoJ officials were divided, with some members pushing for earlier hikes and others urging caution in managing the risks of disrupting a nascent rebound in growth. From the meeting minutes, one finds considerable concern over “upside risks to prices” despite prices being “on track to achieve the 2% price-stability target in the second half of 2025 fiscal year.” Overall, the BoJ’s view has been that weakness in sentiment is temporary, making the May spending print a troublesome data point.


Expect BoJ to hold in July
In a recent interview, Kazuo Momma, the BoJ’s former executive director and chief economist, said he expected the bank to wait until September before hiking again. We also heavily discount a July move by the BoJ—especially in light of the consumer weakness cited above—with another hike most likely coming in October. In the meantime, we are still bullish, encouraged by other data highlighting Japan’s recovery, including last Monday’s June Tankan business sentiment survey out of the BoJ, which showed business sentiment rising QoQ for the first time in half a year.