Markets Remain focused on the Blue Wave

Investors remain focused on the implications of a "Blue Wave" election, given that the probability of a Democratic sweep has climbed to 60% from 47% one month ago. But with much of the street thoroughly drenched in the Blue Wave, global drivers are expected to reassert their influence, with the path of the global economic recovery, COVID-19 case counts, progress towards a vaccine, and broader trade issues.

US stimulus talks continue without reaching a compromise. However, any negative impact on US equities and USD upside are offset by growing fiscal spending expectations under a Biden presidency (65% PredictIt) and a Democratic sweep of Congress (88% House, 65% Senate). Democrats rejected a near $1.9 trn offer from Treasury Secretary Mnuchin over the weekend. With federal unemployment the main sticking point. Which saw equity markets and risk sentiment wobble at the open, but remain bid on dips.

At this stage, it appears the only risk that could upset the US equity apple cart over the next couple of weeks is a recovery for President Trump in the polls that raise his prospects of re-election and another split Congress, which would undermine stimulus expectations.

Volatility was relatively mute last week but could be the calm before the storm. Ahead of some significant catalysts, including Q3 results, the Chinese Communist Party's plenum Oct. 26-29, and the US election on Nov. 3. So we should not be surprised to see profit-taking in a handful of crowded sectors. 

Still, the market remains zeroed in on optimism focusing on a likely pick-up in government spending, notably on infrastructure and "green" initiatives. However, it requires one to ignore the prospect of higher corporate taxes and also potentially massive shifts in the regulatory backdrop for some sectors, notably technology. These elements point in vastly different directions for risk appetite, and "risk-off" is expected to win out, in part because of timing. Changes to the tax code are likely to be implemented more swiftly than the stimulus and infrastructure plans will be rolled out as individual state representatives will endlessly bicker to get their piece of the pie.

Oil Markets

Crude oil prices had a decent move last week as exogenous factors such as offshore workers' strike in Norway and Hurricane Delta both shutting, albeit both are temporary effects. The rally can trip up pretty quickly if the strike is resolved, or the Delta storm surge effect is less disruptive than thought and production returns fast. Typically unexpected supply-driven bounces are a faders delight. Still, energy traders are holding on to the stimulus lottery ticket and stay on the look-out for any moves forward in extending stimulus packages in the US, which would provide a high degree of comfort on the demand side.

Meanwhile, newswires reported that OPEC+ was contemplating the need to extend the current quotas into early 2021 rather than follow the scheduled ramp down of curtailments – this would help normalize global inventories. The timing of OPEC verbal intervention was not so much of a surprise given the resurgence of Covid around the world, but a welcoming backstop none the less. 

OPEC's long-term outlook for oil published last week lays out a view of oil demand not peaking until 2040 with a decent recovery in the next 2-3 years post-Covid and, at the least, ought to be food for thought in the context of the conventional wisdom of oil markets now slowing and declining.

OPEC publishes its 2020 World Oil Outlook to 2045

In OPEC's base case scenario, crude demand would grow from 90.7mbd in 2020 to 109.3mbd in 2040 (oil peak). The global demand decreased this year to 90.7mbd (-9mbd y/y) see increases each year to 2025 at 103.7mbd. Oil demand growth will be driven by countries that are not part of the OECD. Natgas will be the fastest-growing fossil fuel between 2019 and 2045, and coal is expected to decline in demand. US crude oil production is forecast to rise to 13.4mbd in 2025. Once the cuts are over, the cartel's output will increase by more than 10mbd between 2021 and 2045 (OPEC). 

Gold Markets

The bullion complex jumped, with gains across the board in all the precious metals. The USD came under pressure in Asia, which only accelerated in European and US actions. Gold got a shot in the arm from China's return from its extended holiday with a lower-than-expected USD-CNY fixing Friday.

Gold and US interest rates have had a clear negative relationship over recent years. This can be seen in the broad moves over the last two years, with gold +58% while the USD 30y swap rate has dropped >2pts, and the granular daily or weekly return realized correlations have been negative for most of the last seven years.

Long-dated interest rates continue to trade close to record lows, while Gold may be poised for another leg higher (with a potential catalyst in the event of a Dem sweep). Investors anticipating that the next move could see both Gold and rates moving higher together - which is mapping back again to the 2008-09 stimulus.

In Asia on Friday, gold demand came flying out of the gates, with the more prominent players taking notice of the jet fuelled Yuan rally, which was always going to feed through the G-10. But when the EURUSD started to pick up steam as London walked in, it was + $1900"rally time" for Gold. 

Also, Vaccine approval and a Democrat Sweep at the US election can push US breakevens higher. Vaccine potential remains only 55-60% priced according to UBS strategy; despite rising cases and mobility restrictions, risk markets remain resilient - the dips in Gold might provide good buying opportunities again. 

Fixed income turned less of a barrier for Gold on Friday.

For all the talk of a "blue wave," the steepening trade has stalled, and moves this week were just all simply supply-driven and Gold supportive. 

It is hard to reconcile that with the narrative we have been fed all week. Perhaps then investors are best off focusing on the equity market for election narratives rather than fixed income. Alternatively, it is still far too early to start trying to price in a post-election stimulus, given some of the uncertainties that lie ahead. 

Currency Markets

Renewed hopes for US fiscal stimulus alongside a stronger post-holiday RMB have put the USD on the backfoot 

Risk sentiment is generally favorable with equities higher and the USD losing ground. Markets appear to be siding with an optimistic view on US fiscal policy and the increased probability that Biden wins the US election. There has been a clear theme of the market reducing election vol weight ever since the first debate, driven by the expectation for a decisive Biden win (so less volatility on the night itself and after that without a contested result). Hopes of a Brexit deal are bolstering GBP topside. With the US curve bear steeping stalling out, traders were more inclined to take profits rather than add topside USDJPY, especially with USDCNH shifting toward 6.67.

The Euro

FX traders took lively read for cyclical-heavy Europe, and thought of a Democratic sweep could well be the catalyst for some real rotation into Europe. Both Macro and longer-term strategic funds have been buying the EURUSD in earnest the last few weeks to redeploy in a European equity cyclical binge. But the top side attempts have been running into a lot of supply from interbank types due to the resurgence of Covid in EU and a more dovish spin on the ECB. That supply appeared to give way on Friday, likely due to a Biden widening in the polls.

The Pound

The Pound's impunity to the weak economic data likely reflects continued hopes for progress in Brexit talks. Negotiations continue in some reports that the EU may soften its demands regarding access to UK fishing waters.

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