May 15, 2019

Axios Markets

By Dion Rabouin
Dion Rabouin

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Situational awareness:

  • Alice Rivlin, a founding director of the Congressional Budget Office and vice chair of the Fed died at her home in Washington at the age of 88. (WashPost)
  • President Trump is expected to sign an executive order this week that will pave the way for a ban on U.S. companies doing business with China's Huawei. (Reuters)
  • "We've been assured time and time again that progress was being made. We've yet to see any improvement. So farmers are starting to lose hope," said Blake Hurst, a soybean farmer and president of the Missouri Farm Bureau. (Yahoo Finance)
1 big thing: China is ready to fight

Illustration: Rebecca Zisser/Axios

When President Trump began threatening China with tariffs, the Chinese initially played the role of obsequious couriers in an effort to avoid a head-on conflict. But since raising tariffs to 25% on their goods, China has reversed course and is making clear its intent to take the conflict with the U.S. to the proverbial mattresses.

  • In a commentary published last week on its WeChat account, China's state-owned People's Daily warned the U.S. to "not even think about" concessions.
  • "China does not want a trade war but is not afraid of it," Geng Shuang, a spokesman for the Chinese Foreign Ministry, told a press briefing on Monday. "We will not succumb to any external pressure and have the determination and ability to safeguard our legitimate rights and interests."

Background: Heading into 2018, China's long-held philosophy had been to speak softly and carry a big stick. Its military was working to dominate Southeast Asia by land and sea, it was growing its Belt and Road Initiative globally and making loans to low-income countries to win friends and strategic allies.

  • As Trump began his confrontation, China agreed to many concessions, including buys of more U.S. goods, pulling back cyber-espionage, amending the law to ban forced technology transfers and cracking down on IP infringement in order to get "a bit of elbow room," Keyu Jin, associate professor of economics at the London School of Economics, wrote in January.

But the time for reconciliation looks to have passed and a new, emboldened China is emerging, one that is not afraid to take the fight directly to the U.S.

  • There are differing factions inside China, Jin tells Axios. "Some want to cave in ... some want to stay strong and resist." President Xi Jinping and the country's policymakers appear to now be siding with the latter faction.

What's next?

  • "[W]e will have another type of Cold War," Da Wei, professor at the University of International Relations in Beijing, said on PBS' "Frontline."
  • "I think it is a comprehensive confrontation. ... If that happens it will last for quite a long time. That's a tragedy for everyone."

Why it matters: Market analysts at both Morgan Stanley and Bank of America-Merrill Lynch have predicted a prolonged trade war could lead to an outright global recession.

The bottom line: Tuesday's stock market rebound shows investors haven't quite gotten that message.

2. The world's top worries before the trade war escalated
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Reproduced from UBS Investor Sentiment 2Q 2019; Chart: Axios Visuals

A recently released survey of business owners around the world provides an interesting snapshot of expectations and worries for firms in different parts of the globe before Trump escalated the trade war.

What they're saying: European business owners were the least optimistic, while those in Latin America had the most optimism.

  • Fifty-five percent of Latin American business owners said they had "big growth plans" in the next 12 months, more than double the 20% of U.S. business owners and 22% higher than business owners in Asia.

When it came to their top concerns, cybersecurity was the most cited answer, chosen by 48% of global respondents, but there was a plurality of responses, ranging from having sufficient insurance to regulations.

  • Perhaps the most interesting development was the high cost of tariffs rising to the second most concerning business development in Asia.

Note: African business owners were conspicuously absent from the survey.

3. Everybody wants U.S. bonds

The trade war has been a boon for U.S. bonds, which had already seen significant buying for most of 2019.

Driving the news: U.S. Treasury yields fell to a 6-week low on Monday, as investors pushed yields on the benchmark 10-year notes back towards their lows of the year. And data shows investors are snapping up every kind of U.S.-issued bond they can get.

Details: Data from Lipper shows U.S. core bond funds took in $32.6 billion in the first quarter, the second-highest inflows in history. That trend has continued in Q2, as net inflows have totaled $16.9 billion to date.

  • Reuters' Gertrude Chavez-Dreyfuss notes that data from the U.S. Treasury Department shows foreign buyers made net purchases of U.S. bonds to the tune of $11.3 billion in January and February (the latest available data) and EPFR Global data shows U.S. investment grade and high yield bonds also saw inflows and strong returns in Q1.
  • That's a complete reversal from 2018, which saw $35.6 billion leave bond funds in Q4, the worst quarter ever for bond fund outflows, Lipper's data shows.

What's happening: The trade war is exacerbating red-hot demand for the safety of the U.S. bond market that was ignited by the Fed's interest rate reversal in January. When central banks raise interest rates, it reduces the value of already-held bonds.

4. An examination of U.S. higher education
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Reproduced from Economic Policy Institute; Note: Shares might total over 100% due to rounding; Chart: Axios Visuals

Despite growing levels of educational attainment, there is still significant dispersion between the groups of people who do and do not have college degrees, new research from the Economic Policy Institute finds.

  • The survey of 21-to-24-year-olds includes many who are still of college age, but researchers note that the vast majority of people who do not finish college during this time do not wind up completing a 4-year college degree.
5. Failed Venezuela gambit complicates Trump's Iran strategy

Conditions in Venezuela are worsening despite U.S. intervention, and the failed, U.S.-backed uprising by opposition leader Juan Guaidó has left President Nicolás Maduro in power. Guaidó is now asking for U.S. military support, putting the U.S. administration in a bind on whether to escalate militarily.

Why it matters: This will create a problem for Trump and the U.S. in Iran, where Trump is reportedly considering sending 120,000 U.S. troops, writes investment manager Ashmore's Global Head of Research Jan Dehn.

"President Nicholas Maduro suddenly looks far more secure in his job after Trump chickened out over military intervention in Venezuela. Trump's sudden wilt undermines his hawkish national security advisor, John Bolton, who favored aggressive measures to effect regime change.
"The real implication of Trump's apprehension with respect to Venezuela is that the credibility of his administration's efforts with respect to Iran must now surely also be called into question."
6. After going "naked" for IPO, Uber faces real short sellers

CNBC's Leslie Picker reported Tuesday that Uber's underwriters, led by Morgan Stanley, were so worried about the company's IPO that they deployed "a nuclear option" ahead of the deal last week to provide extra support for the stock — a so-called naked short.

  • Now, actual short sellers are coming in at significant levels and could push the stock even further below its $45 IPO price.

What it means: Every IPO includes an excess amount of shares that allow underwriters to sell 115% of the available offering and then buy the additional 15% back, Picker explains. That extra 15% can support the stock's price if it falters.

  • But in Uber's case, they opened a naked short, allowing underwriters to sell more than the "greenshoe" portion and then buy the shares back, providing "even more firepower."

That plan came up short as Uber's stock fell 18% in its first days as a public company before recovering Tuesday with a 7.7% gain.

What to watch: Actual short bets against Uber now total $768 million, with short sellers holding 11.5% of available shares, according to data from Ihor Dusaniwsky, managing director of predictive analytics at S3 Partners.

  • "We expect Uber short interest to increase over the next several days as short sellers continue to be active," Dusaniwsky said in a statement.
Dion Rabouin