Feb 27, 2020

Axios Markets

By Dion Rabouin
Dion Rabouin

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1 big thing: Record low rates could exacerbate debt, housing issues
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Source: Federal Reserve Board; Chart: Axios Visuals

The stock market selloff has drawn the most attention this week, but moves in the U.S. government debt market will likely have much more important impacts on the economy.

  • Mass bond buying has taken place since the beginning of the year and picked up steam as headlines about the spread of novel coronavirus have grown more worrisome.

Why it matters: The yield on the 10-year U.S. Treasury note, which hit a new record low on Wednesday, is tied to the rates on mortgages, student loans and more. As it declines, credit gets cheaper and more attractive to both individuals and businesses.

  • Americans already have more debt than at any time in history and low rates are likely to fuel an even greater increase.
  • That could help buoy the economy through the current coronavirus scare, but also adds to outstanding risks.

What to watch: The interest rate for federal student loans are recalibrated once a year to take into account changes in the government's borrowing costs.

  • The auction that sets the rate will happen on May 12. If yields remain near their current levels, student loan interest rates will be set at all-time lows for the 2020-21 academic year, analysts at Credible Insights say.

By the numbers:

  • If the 10-year yield stays near its current level, undergrad rates would be 3.35%, down from 4.54% today.
  • Grad students (direct subsidized loans): 4.90%, down from 6.08% today.
  • Grad and parent PLUS loans: 5.90%, down from 7.08% today.

That would likely encourage more students to take on loans, adding to the inflated level of outstanding U.S. student debt, currently totaling $1.6 trillion.

Also important: Mortgage rates, already near record lows, are primed to drop further, adding to the wave that prompted the highest pace of new U.S. home sales since July 2007 last month.

  • Housing affordability has become a serious worry as prospective homeowners continue to report difficulty finding a home with a reasonable price tag.
  • Rising prices have pushed a growing number of Americans, especially on the West Coast, to live in vehicles, according to the Wall Street Journal.

Watch this space: Businesses, especially U.S. banks, have been taking advantage of low interest rates and easy money from the Fed for years, but that has masked a decline in net interest margins, S&P Global warned on Monday.

  • "[L]ower interest rates could lead to more risk-taking (perhaps adding to already high commercial leverage). Separately, we expect banks' capital ratios to decline somewhat as they continue to pay out significant chunks of their earnings to shareholders."
2. Catch up quick

Bank of Korea kept interest rates unchanged at 1.25%, against expectations of a rate cut to offset coronavirus fears. Policymakers were worried about the weakening won currency and worsening the housing price bubble. There were two dissents. (Reuters)

Hedge funds ramped up risk appetite this month with net leverage rising by about 5%, one of the fastest expansions in years. (Bloomberg)

Google and Microsoft are moving some production, including the Pixel smartphone, out of China and into Vietnam and Thailand because of the coronavirus outbreak. (Nikkei)

3. Wall Street reacts to coronavirus developments
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Data: The Center for Systems Science and Engineering at Johns Hopkins, the CDC, and China's Health Ministry. Note: China numbers are for the mainland only and U.S. numbers include repatriated citizens.

Axios' Jennifer Kingson writes: Wall Street is still grappling with what to make of the drumbeat of coronavirus warnings. S&P 500 futures were poised to drop again Thursday after reports of "community spread" to a person in California who had not traveled to China or had close contact with a person known to be infected.

Driving the news on Wednesday:

  • Moody's, the credit ratings agency, lowered its estimate for 2020 auto sales worldwide, citing coronavirus.
  • Nearly half of U.S. companies in China said they expect revenue to decrease this year if business can’t return to normal by the end of April, according to a new survey by the American Chamber of Commerce in China.
  • One fifth of respondents said 2020 revenue from China would decline more than 50% if the epidemic continues through Aug. 30.
  • Companies like Microsoft, Papa John's, Danone and Diageo warned that coronavirus could make a meaningful dent in their businesses.
  • Software maker Workday canceled an annual sales meeting scheduled for next week in Orlando.

Between the lines: CME Group's Fedwatch Tool gauged the probability of a rate cut at the Fed's March 18 meeting at 36.5%, and traders now see a 78% likelihood of a cut in April and a 58% chance the Fed cuts rates at least three times this year.

Plus, large investment banks have begun revising their estimates of coronavirus damage.

  • "U.S. markets in particular will need to price not only a possible drag on activity from the virus, but election-related risks as well," Goldman Sachs said in a research note on Wednesday.

What they're saying: "When you consider the scale of the epidemic at this point, it’s hard to believe that we aren’t going to start running into major supply chain interruptions and also start seeing more pressure on earnings and free cash flow for corporations," Scott Minerd, global CIO of Guggenheim Partners, told CNBC Wednesday.

4. The 10 most overpaid CEOs
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Reproduced from As You Sow; Chart: Axios Visuals

CEO pay is growing at breakneck speeds even for top executives who aren't doing a very good job. In response to this trend of overvalued execs, social responsibility nonprofit As You Sow released its latest report on the most overpaid CEOs of S&P 500 companies.

What it means: The list is a calculation based on the chief executive's pay package, total shareholder return of the company during the previous year, and the pay relative to their company's average worker.

  • The rankings are decided by a statistical regression model from HIP Investor, which computes what the pay of each CEO would be if it was determined by cumulative total shareholder return (40%), data that ranks companies by what percent of shares were voted against the CEO pay package (40%), and CEO to worker pay ratio (20%).

The big picture: CEO pay has increased so greatly that even the bottom 10% of companies with the worst one-year shareholder returns had CEOs with median pay packages of $12.6 million, As You Sow found.

  • Between 1978 and 2018, inflation-adjusted CEO compensation based on realized stock options has increased 940%, according to data from the Economic Policy Institute.
  • The increase was 25% to 33% greater than the companies' stock market growth and almost 10 times greater than the 11.9% growth in a typical worker’s annual pay during that period.

Go deeper: See the full list of top 100 most overpaid CEOs

5. Grocery delivery gets a target market
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Reproduced from CivicScience; Note: Not all responses shown; Chart: Axios Visuals

The ideal grocery delivery customer is young and rich, new data from CivicScience shows.

Why it matters: Companies like Amazon and Walmart are investing further in grocery delivery and the data show who their target demographic could be.

  • The research shows "Amazon has captured the attention and interest from more potential customers."

Details: The increase in the number of people 18–24 who use and like grocery delivery is a shift from last year, when enthusiasm about the services was split among age groups, CivicScience analysts note. While the youngest adults lead the way in adopting this tool, those aged 35-54 lead with intent to use.

  • The interest gap between income levels is intuitive given the markup and delivery fees, but the higher participation from Gen Z, who are often the lowest earners, is explained by a reliance on "immediate gratification and saving time," the analysts note.

The intrigue: Respondents who have used and like grocery store delivery also report favoring specialty stores such as Whole Foods and Trader Joe’s. However, the greatest interest comes from those who shop at stores known for lower prices, like Sam’s Club and Walmart.

  • "This echoes the data around price, suggesting that there is plenty of room for expansion in the direction of affordable, accessible stores."
Dion Rabouin

Ernest Everett Just was a pioneering biologist who is best remembered for his recognition of the fundamental role of the cell surface in the development of organisms.

  • Just graduated from Dartmouth, earned a doctorate from the University of Chicago, and worked as head of the biology and zoology departments at Howard University.
  • He was awarded the very first Spingarn Medal from the NAACP.
  • In his work within marine biology, he advocated the study of whole cells under normal conditions, rather than breaking them apart in a laboratory setting.
  • His work at Woods Hole, Massachusetts, gave birth to a new scientific area known as ecological developmental biology.

However, racism kept him from earning a tenured position at a major American university and in 1929 he moved to Europe where he published his most famous work, "The Biology of the Cell Surface," which argued that all life derives from a complex organic structure.

  • "Life is the harmonious organization of events, the resultant of a communion of structures and reactions," he wrote.