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Biden(omics): a new chapter for the US markets

With the inauguration of the 46th US President on Wednesday January 20th, a new page turned for the US economy. Stocks opened higher on Wall Street ahead of the inauguration ceremony. The S&P 500 (^GSPC) was up 1% shortly after the open, while the Dow Jones Index (^DJI) was up 0.5%, and the Nasdaq (^IXIC) had rallied 1.7%. The FTSE 100 (^FTSE) was up 0.4% by mid-afternoon in London, while the DAX (^GDAXI) was up 0.9% in Frankfurt, and the CAC 40 (^FCHI) rose 0.7% in Paris. A number of executive orders were signed upon first entry into the White House, including orders for the US to re-enter the Paris Climate Change agreement, rejoining the World Health Organisation (WHO), and reversing the travel bans from certain Islamic countries. These are but a few issues to initially occupy Biden’s younger, more ethnically-diverse and experienced cabinet.

First Steps

Polls state the top items to be addressed by the President are health care, as well as the jobs sector and the economy. Climate change polls third; civil rights fourth; whilst taxes and government spending fifth. Alongside his cabinet, Biden will nominate more than 1,250 executive-branch roles which will require Senate confirmation. These roles will form the critical backbone of the Democrats’ operations within the next four years, with roles including the Environmental Protection Agency’s assistant administrator for solid waste and emergency response, or members of the St Lawrence Seaway Development Corporation Advisory Board. Secretaries form the public faces for their departments and much of the government’s work happens further down the chain from these central positions.

US Economy: Fiscal and Monetary measures

Fiscal policy

With the number of deaths and cases per 100k still rising in the US, President Joe Biden unveiled his plan for dealing with the pandemic-induced downturn on January 14th. Biden unveiled a $1.9tn (£1.39tn) fiscal stimulus proposal, which includes $1,400 stimulus cheques for Americans. This forms a first basis for negotiation but one that he will want to pass quickly through Congress. Biden is also targeting 100m vaccinations within his first 100 days in office. For Americans, it is a combination of vital spending on vaccines and health care, necessary economic relief, and other, more debatable handouts. From the top-down, this seems like an enormous debt-funded stimulus. President Biden’s fiscal plan is worth about 9% of pre-crisis GDP. By the end of 2020, total fiscal stimulus had already amounted to almost $4tn, which is around 18% of GDP in 2019. With the fiscal stimulus already in place and the winter months nearing an end, this package may prove more than generous in relation to future demand. The concern lies whether these additional fiscal measures will over-stimulate the economy.

There is an assumption that the downturn of the pandemic is temporary, rather than a prolonged slump, especially with the several vaccination programs well underway within America. After the first wave of injections in 2020, unemployment fell much more rapidly than forecasters expected, with the number of non-farm jobs at 6.3% below its pre-pandemic peak, which is similar to the shortfall seen at the worst of the last crisis in 2010, when Joe Biden served as Vice President. The ratio of job openings to unemployed workers remains high and if the average pace of job creation, achieved between June and November 2020, persists then the US could reach the same pre-pandemic peak in employment in less than a year. However, long-term unemployment (over 6 months) has risen from 0.7% in February 2020 to 2.5% today, signalling that opportunities within the labour market for those with low transferable-skills or those who take a longer time out between jobs are dwindling. Certain sectors and roles within industry have vanished and will not return for these people.

The US economy has been impacted in very sector-specific ways. Due to the need for social distancing, lockdowns and isolation, the leisure, transport and hospitality sectors have been the worst affected. Aside from these affected sectors, wage growth has not fallen by much, with growth turning positive once again since July 2020 and is currently at a rate of 2.1%. In terms of consumer spending, the downturn has hit the aforementioned sectors the worst, whilst retail spending on goods was actually 16.5% higher in the week to January 3rd, compared with a year earlier. Overall consumer spending is down by just 2.8% compared with a year earlier. This reduced consumer spending has meant that personal savings have accumulated by about $1.6tn in excess savings, by mid-December 2020. In 2020, Fidelity Investments, the nation’s largest 401(k) provider, noted approximately 1% of 401(k) participants took what is known as a hardship distribution in 2020 — surprisingly only half of the typical 2.0% annual average. The existing fiscal stimulus measures have had the desired effect of shoring up wages and propping up businesses during periods of prolonged disruption over much of 2020. With Biden’s additional fiscal stimulus, and a projected increase in consumer spending after the pandemic subsides, a sharp rise in inflation may occur in 2021, influencing monetary policy which may aim to cool the US economy.

Monetary policy

Indeed, interest rates have increased lately, as the 10-year Treasury yield touched 1.18% on Wednesday, its highest level since March 19th 2020, driven by a market pivot from treasuries towards assets which expect to benefit from inflation and growth (i.e. equities and real estate). 30-year bond yields rose for nine straight days through Tuesday, a record last set in 2006. The 2-to-10 year yield curve currently sits at 98bps — its highest level since Q3 2017 — indicating the market expects more growth and more inflation. University of Michigan Inflation Expectations — which measures consumers’ expectations of the change in price of goods and services during the next 12 months — 1-year inflation expectations increased from 2.5% to 3.0%, while 5-year expectations jumped from 2.5% to 2.7%. However, Jerome Powell, the chairman of the Federal Reserve, has not indicated for any reductions in asset-purchasing anytime soon, in continuation of the Fed’s plans, announced last summer, to overshoot its 2% inflation target in the short-term, in order to make up for persistent shortfalls. Ongoing stimulation through low and decreasing interest rates are therefore to be expected in the short-run, and coupled with Biden’s proposed fiscal measures which await approval from Congress — who may even negotiate for the stimulus to be smaller — the extent of economic growth and corresponding inflation rate in the US is to be determined.

Capital markets activity

Markets traded positively throughout the week, first increasing on the announcement of President Biden’s stimulus plan, then retracing on the risk of increased taxes, ultimately recovering on record quarterly performance from banks (Morgan Stanley, Goldman Sachs, JP Morgan) and Tech (Netflix) — spreading further optimism to the likes of Disney, Apple, Amazon, Google and others. As of Thursday’s market close, the DJIA was effectively flat week-over-week (+0.6%), while the Nasdaq surged 3.2%, and the S&P 500 gained 1.5%.

President Joe Biden is expected to begin his term on a cautious, more frosty note — with major acquisitions of emerging tech start-ups by big tech companies set to be put on notice for detailed inquiry. With technology antitrust also on the radar for both the European Commission and the UK Competitions and Markets Authority, transatlantic antitrust enforcement of tech deals is expected to ramp up significantly in 2021. Increased US enforcement, alongside the UK and EU, will align to allow for fair markets either side of the Atlantic, which is desired as potential deal opportunities will likely involve a US buyer, such as US technology companies or from private equity funds. Post-Brexit, the European Commission no longer has jurisdiction to scrutinise mergers which affect the UK market, which means that all transactions will face parallel scrutiny in both London and Brussels. The Biden administration alongside the UK and EU are also joined in taking a tough line of approach against the world’s second biggest economy. Incoming US Treasury Secretary Janet Yellen said the US must “take on China’s abusive, unfair and illegal practices,” during her confirmation hearing on Tuesday.

Start-ups’ exit strategies (IPO, buyout, acquisition) need to account for this additional risk. Last year in the UK, for example, nine mergers were subject to a Phase II CMA review; only one was cleared unconditionally, with three blocked, four abandoned by the parties, and the other only approved subject to a divestment remedy. This is likely to curb booming investment in technology, whereby in Q2 and Q3 2020 America’s non-residential private sector spent more on computers, software, and research and development (R&D) than on buildings and industrial equipment for the first time in over a decade.

US banks’ profits soared by the end of 2020, with Morgan Stanley reporting a 51% jump in earnings in Q4 2020, Goldman Sachs making half of its annual profits of 2020 in just Q4, and JPMorgan Chase’s investment-banking profits in the fourth quarter almost doubling on the year. These profits reflect how the performance of investment banks mirror the wider macroeconomy less closely since the last Global Financial Crisis, after reforms to loans and deposits alongside extensive restructuring of banks. Unlike the Global Financial Crisis, banks are now capital-rich, with consumer deposits amassed alongside expansionary monetary injections. Despite low interest rates, loan demand has been low, causing loan-to-deposit ratios to fall sharply, from 94% in 2008 to 64% last year. Loans therefore do not reap profitable opportunities in the short-term. Even JPMorgan’s CFO Jennifer Piepszak has stated that the firm will “shy away from taking new deposits.” Morgan Stanley’s acquisition of Eaton Vance and ETrade last year signals banks’ continued efforts to shift its revenue stream away from risky operations towards safer products and targeting a wider demographic of consumers. These efforts across the financial system will continue through 2021.

With a four-year road ahead of them, President Joe Biden’s administration has plenty of mandates to reform, manage, and enact. Biden’s centrist, considered approach will enable flexible policy mandates to navigate economic conditions in flux over the next four years. Whether the US will see the end of COVID-19 imminently, will determine the extent at which the President is able to enact a new era for the US economy and international relations, or whether the pandemic will prove to be a prolonged slump, which has so far occupied Boris Johnson’s tenure in office to date.

Sources

https://www.ft.com/content/13954a39-bd8c-4ea3-b9ad-72492176ae02

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https://www.economist.com/finance-and-economics/2021/01/19/will-joe-bidens-fiscal-stimulus-overheat-the-american-economy

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