Part 1: What to fear most? Markets? Energy? America or China?

Blain’s Morning Porridge 1^st October 2021 – Part 1: What to fear most? Markets? Energy? America or China?

“I am so glad to live in a world where there are Octobers”

This Morning: October is the cruellest month for markets. What to fear most? Markets? Energy? China? or America? Or will it be a “no-see-um” that sinks us?

Reader Warning: This morning’s Porridge Part 1 might upset some Americans – so Americans.. please don’t read today’s Porridge. (While it’s fine for Americans to tell the rest of the world how wrong they are, heaven help anyone foreign who dares to ponder where America might be headed. )

October – the Cruellest Month

It’s the first day of the final quarter of the year, and what’s to look forward to? October is often a miserable month for markets. Was September a foretaste of things to come – the worst monthly market performance since the March 2020 Pandemic Crash? Its easy to imagine a host of meltdown scenarios – but, my own view is: “if you can predict them, then they probably won’t happen..” It’s usually a no-see-um that crashes markets…

On the basis things are usually better than we hope… what just might still tip the globe into a full crisis?

Markets? There are so many inconsistencies and value-gaps in the market where expectations and prices have got way ahead of rationality. Housing, SPACs, Disruptive Tech, Corporate Debt…? Cascading supply chain crisis? Bond yields rising, stocks stalling and energy costs spiking around the planet? Chinese producers being told to secure fuel sources at “any price” might be a clue of what’s to come. There is a feeding frenzy going on in Capital Markets as corporates and sovereigns attempt to grab the last few days of easy interest rates – from experience that door slams shut suddenly.

Energy? Yesterday in a Porridge Extra I wrote about the deepening energy crisis – The Looming Energy Crisis: People Are Going To Die This Winter. If I am right it could generate a slew of societal effects and political crisis over the winter.

China? Some folk think rising Chinese instability may be the trigger. (More on that in Porridge Part 2 later this morning.)

America? Or might the slow-motion implosion of US politics be the trigger point? Last night President Joe Biden managed to secure a deal to stop a Government Shutdown till December, but raising critical debt ceiling legislation and moving forward on the infrastructure and tax & spending bills are still stalled.

It’s therefore still entirely possible, but unlikely, the US will default around about October 18^th.

If it happens, America – the richest nation on earth – will have run out of money. Millions of state employees will be left unpaid – including the armed forces. (Rule 1 of the Roman Empire: pay the Legions first and second.) It will stop the payment of interest and principal on Treasuries. Spending on government contracts and programmes will be slashed. It would trigger an immediate step higher in US yields – even if it was immediately cured with a higher debt ceiling. The damage will have been done: the global market for US Treasuries and every single financial asset that prices off them will not want to be hostage to political uncertainty as represented by Nancy or Mitch and the rest.

Over decades the government – in shades of Red and Blue – has run up a $28.5 trillion debt. They have a debt ceiling which can only be broken if the elected government votes to do so. Each party in opposition refuses to support increasing the debt ceiling – even though they were the ones that previously ran up the debt. Each party says the same thing – we ran up debts because we are a practical, good and honest party, but the other guys are running up debt because they are wrongheaded idiots.

A solution is generally found to the immediate problem at the very last moment. Such brinksmanship is an “interesting way” to run the Globe’s largest economy – games of chicken inevitably end with someone being hit by the train. Jamie Dimon of JP Morgan warns his bank is preparing for a “catastrophic event.” So are the others – less publically.

America might share common heritage with the UK and be divided by our common language, but dashed if I can understand how the place works. American football and baseball no-doubt make perfect sense to Americans. We outsiders have literally no idea what language the commentators are squawking, what the rules are, or even what constitutes a score. Increasingly their politics make even less sense – and this is written while I sit in a country that elected Boris!

I’ve asked American chums to explain what’s going on in Washington – but they look at me like I must be a Martian when I ask what a budget reconciliation process might look like. (For the record – I still don’t really know… and neither do 99.9% of Americans..)

Having studied – from the safety of a nation far, far away – the workings of American politics….. I am staggered it functions at all. The Republicans paint a picture. The Democrats paint a picture. One is a classical landscape, the other is modern art painted with elephant dung. (Interesting fact – one of Chris Ofili’s Elephant Dung paintings auctioned at $4.5mm.)

The problem is America is no longer moving forward. Politics is solving nothing. The primary objective of both parties is to stop the other party doing anything significant. (And within the Democrats there is a secondary objective of stopping other Democrats doing anything as the Progressives on the left and Regressives on the right look certain to consign Joe Biden to the failed presidents league therefore heralding Trump’s Second Coming.)

Solving America increasing looks an impossible Gordian Knot. How will it address the following critical issues?

• Inflation/Stagflation wasn’t invented overnight by Biden. It’s been brewing since 2012 (QE) and unleashed by the pandemic, broken supply chains and inequality.
• America needs to rebuild infrastructure to remain competitive.
• To serve its people America needs better social care, welfare, health, education – all the social goods a good government should supply as a matter of course, not debate.
• Like it or lump it Covid pandemic spending is a dress rehearsal for what likely to occur with growing climate instability.

Are the politicians at fault? Is it the constituents they represent for electing them? Read anything on US policy negotiations and the same trope comes up: the left wing democratic progressives want to hand out $3.5 bln in benefits to lazy Americans who aren’t working hard enough, and that will give the Senate and Congress to the Republicans next year, thus ensuring the return of President Trump part 2: nastier and meaner, in 2024.

This week Martin Wolf in the FT wrote a remarkable harangue about how Donald Trump is set to turn America into a Fascist State: The Strange Death of American Democracy. Last week it was Robert Kagan in the WSJ: “Our constitutional crisis is already here”. Both suggest the US political system is heading for violence, fascism, political civil war and crisis. Both say Trump’s supporters have laid the groundwork for ensuring victory in 2024 – not in the ballot box, but by control of the ballot box; who certifies the result.

The US system looks in crisis – and that’s bad. Everyone is running for the dollar thinking it’s the flight to safety trade… Time to buy Gold?

Five Things to Read This Morning

FT – UK Businesses warn of “autumn storm” of shortages, costs and taxes

BBerg – Power-Starved UK Gets First Undersea Supply From Norway

BBerg – Pelosi Regroups on Infrastructure With Hope For Friday Vote

FT – Evergrande Bonds snapped up by distressed debt investors

WSJ – Powell Says Fed Faces “Difficult Trade-Off” if Inflation Doesn’t Moderate

Out of time, and back to the day Job… after I publish Part 2 of the Porridge on China.

Have a great weekend

Bill Blain

Strategist, Shard Capital.