Aug 19, 2020

Axios Markets

By Dion Rabouin
Dion Rabouin

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🎙 “If we all worked on the assumption that what is accepted as true is really true, there would be little hope of advance.” - See who said it and why it matters at the bottom.

1 big thing: Still no love for the market rally

Illustration: Aïda Amer/Axios

The S&P 500 closed at a new all-time high yesterday and has rallied by around 52% since hitting its low point on March 23 — the best run the index has ever had in such a short time.

  • While the market has continued to rise for the past five months, most investors have been incredulous about the sustainability of gains.

What's happening: Data from the Investment Company Institute show equity funds continue to see outflows and bond funds continue to see inflows.

  • For the week ended Aug. 5, the last week for which data are available, investors pulled $20.3 billion out of equities and put $27.3 billion into bonds.
  • Equity funds have seen net outflows in every month this year and they have increased in recent months as stock prices have gone up — outflows in March, when the market crashed to its nadir were $25.6 billion, but rose to $45.1 billion in June and totaled $76.7 billion in July based on ICI weekly estimates.

Money market funds, which are ostensibly savings accounts, also have been stubbornly high in 2020 despite the booming market.

  • Investors have parked at least $4.5 trillion of cash in money markets since the week ending April 15.
  • That's about 50% more — $1.5 trillion — than MMFs held in April 2019 and an increase of more than $600 billion from the highest level of holdings following the global financial crisis.

What they're saying: "The S&P 500 has been impressive and has created a lot of wealth, but I am not sure that reflects the overall health of the economy," Patrick Leary, chief market strategist at Incapital, told Reuters.

  • "The rally has more to do with asset inflation, which is fueled by all the liquidity and all the continued support in the economy as well as the weakening dollar."

Yes, but: Some asset managers are starting to get bullish in public and in notes to their clients, encouraging stock buying.

Watch this space: Divergence continues to be a major theme in the stock market. Big U.S. tech stocks have led the way, with the Nasdaq up 22% year to date, setting new record highs for months.

  • U.S. equities continue to outperform the rest of the world with MSCI's index of global stocks excluding the U.S. down 4.7% year to date, compared to the S&P's 4.9% gain.
2. Catch up quick

West Virginia's attorney general filed lawsuits against Walmart and CVS, alleging the companies helped create the state's opioid epidemic. (The Hill)

Postmaster General Louis DeJoy said he would halt operational changes and cost-cutting to the U.S. Postal Service until after the 2020 election to "avoid even the appearance of any impact on election mail." (USPS)

The State Department warned colleges to divest from Chinese holdings in their endowments ahead of a wholesale delisting of Chinese firms from U.S. exchanges by the end of next year. (Bloomberg)

Goldman Sachs and Malaysia signed an agreement to finalize the $3.9 billion settlement over the 1MDB scandal, the bank announced in a filing. (Bloomberg)

3. NY Fed finds amateurs create bubbles

A new study from the New York Fed finds that when amateurs drive a market bubbles develop.

Why it matters: Given the rising number of inexperienced retail traders who have taken to investing this year, the study's findings could have obvious implications for the current state of U.S. financial markets.

What happened: Researchers at the central bank designed an experiment featuring trained stock traders and untrained students to see how they would respond to a controlled experiment in which both groups attempt to value assets.

What they're saying: "We find three differences between traders and students:

  • "Traders do not generate the price bubbles observed in previous studies with student subjects."
  • "Traders aggregate private information better."
  • "Traders show higher levels of strategic sophistication in the Guessing Game."

What it means: "Rather than reflecting differences in cognitive abilities or other individual characteristics, these results point to the impact of traders’ on-the-job learning and traders’ beliefs about their peers’ strategic sophistication."

One level deeper: "Traders were better at understanding the repetitive feedback loop that comes when you try to predict the actions of other people who are also trying to predict crowd behavior," DataTrek Research co-founder Nicholas Colas notes. "Students largely failed to understand this dynamic."

Be smart: Another important point from Colas, who highlighted the study in his morning note: "The fact that the rookies create asset price bubbles in the middle (not at the start) of their involvement is intriguing, and other studies agree on this fact."

  • "Since you only know where 'the middle' might be once you’re well past it, this is exactly why trading bubbles in real time is so difficult."
4. Trade is now the relative bright spot in U.S.-China relations

Illustration: Eniola Odetunde/Axios

Axios' Bethany Allen-Ebrahimian writes: Trade is the last major area where the U.S. is still relying on traditional diplomacy to work through problems with China.

Why it matters: U.S.-China relations are at their lowest point in decades, as both sides have taken an increasingly harder line over Hong Kong, Xinjiang, the South China Sea and other issues. The desire to keep the trade deal alive seems to be keeping the relationship from unraveling entirely.

  • “The one area we are engaging is trade,” White House economic adviser Larry Kudlow said at a press briefing last week.

Driving the news: The U.S. and China were scheduled to meet over the weekend to review the phase one trade deal signed in January, but the meeting was delayed.

  • Beijing may welcome the delay because it provides more time to catch up on import commitments, the South China Morning Post reported.
  • China agreed to increase its purchases of U.S. goods and services by $77 billion this year under the terms of the phase one trade agreement.
  • It has so far fallen short of this commitment, though Chinese officials have attributed this to the coronavirus outbreak and the resulting lockdowns and economic slowdown.

Background: For the first part of Trump's presidency, trade was the primary target of his ire, echoing his rhetoric during the 2016 presidential race, when he railed against China's unfair trade practices.

  • But the Trump administration has increasingly adopted a fiercely hawkish stance on the Chinese Communist Party, and since the coronavirus outbreak, Trump has made countering China a key cornerstone of his reelection campaign.
  • In the past few months alone, the U.S. closed the Chinese Consulate in Houston, levied several rounds of sanctions on Chinese officials and entities deemed complicit in human rights abuses, urged allies to exclude Huawei from their 5G networks, issued an executive order restricting Chinese social media companies TikTok and WeChat, and declared China's activities in the South China Sea to be illegal.

Amid this onslaught of unilateral moves, trade negotiations remain the only major area in which the White House is still publicly engaging in meaningful high-level diplomacy with Beijing.

  • In fact, it seems as though hopes for further progress on trade negotiations played a role in initially delaying the U.S. from taking some of these actions.
  • President Trump told Axios' Jonathan Swan in a June interview that trade negotiations were the reason that he didn't sanction China for human rights abuses in its northwestern region of Xinjiang.

What to watch: A phase two deal doesn't seem to be in the cards right now — even Trump has said he's not thinking about a second phase right now — so the focus is on preserving the phase one agreement and ensuring both sides are keeping their commitments.

Dion Rabouin

Thanks for reading!

Quote: “If we all worked on the assumption that what is accepted as true is really true, there would be little hope of advance.”

Why it matters: On Aug. 19, 1871, Orville Wright, the man who helped invent and design and then piloted the first sustained motorized aircraft flight, was born.