A Chance for Normalcy

By John Mauldin 

Last week I talked about the polls misleading us. I, for one, didn’t see a high probability of a Biden presidency combined with a Republican Senate. But, pending recounts, legal actions, and some run-off elections, that’s probably what will happen We will muddle through.

Last week I talked about the polls misleading us. I, for one, didn’t see a high probability of a Biden presidency combined with a Republican Senate. But, pending recounts, legal actions, and some run-off elections, that’s probably what will happen We will muddle through.

In fact, the optimist in me says this outcome is probably better than some of us think. Divided government isn’t necessarily bad. It can actually help force the different factions to bend a little and avoid extremes. I think, or at least I hope, they will come out of their ideological holes and talk to each other.

President-Elect Joe Biden has been a natural deal doer for the 47 years he has been in politics. In his Senate days he was clearly able to work across the aisle. He and Mitch McConnell are friends. With Republicans gaining seats in the House combined with a significant number of moderates within the Democratic House, there is the potential to get things done.

It is not unlike the Bill Clinton/Newt Gingrich years. Who knew we would be nostalgic for Clinton and Gingrich? While they may not have been pals, in the 1990s they worked together to forge a political package. Both gave a little on their preferred positions. If I remember correctly, this is called “compromise.” It produced the first balanced budget in decades.

Is hoping for more of that unduly optimistic? Maybe, but I’m a natural optimist. But I also recognize we have some big challenges. Today we’ll talk about the political changes, what they mean for the economy, and then how the latest vaccine news may affect the outlook.

First, let me remind you our AI Masterclass is still open. Artificial intelligence is a huge and growing industry that’s going to change life in profound and permanent ways. You’ll get to see exclusive interviews with George Gilder, Cathie Wood, and several other experts. The class will show you how to take advantage of this trend that will continue, no matter what the politicians do. 

Blue Wave Fizzles

Going into this election, Democrats hoped for a “blue wave” that would give them solid control of the White House, House, and Senate. Then what? That was less certain. But some of the progressive agenda would probably have passed, including tax increases, vast new spending, and major new regulations.

Democrats thought Biden’s coattails would deliver the Senate, and history was on their side. This chart from Bruce Mehlman’s latest slide deck shows every newly elected Democratic president since 1884 began his term with a Democratic Senate and House. This year broke the streak.

Source: Bruce Mehlman

My friend Ian Bremmer, in his exclusive weekly letter, outlined all the things that now won’t happen, and a few that will.

There will be no voter rights act, no redo of the census, obviously no potential for ending the filibuster, no making Washington DC or Puerto Rico a state and adding to the Senate, no “packing” the Supreme Court. Cabinet appointments have to be confirmed by the (Republican) Senate, which means some positions (Department of Labor, for example) may stand with acting posts, State/Treasury and other key positions will go to centrists. Biden’s broader social democratic policy agenda, attempting to align centrist Democrats with the more progressive wing of the party, is effectively stillborn—no nationwide increase of the minimum wage, no healthcare redo [JM—I’m not so sure], no dramatic legislative agenda on sustainability, and no tax increases to pay for increased outlays (while Republicans in Congress immediately shift to concerns about the deficit and fiscal responsibility).

Most importantly, in the middle of a pandemic, the ability of Biden to pass what would’ve been a $3 trillion stimulus has now evaporated—with prospective infrastructure, state and municipal outlays being chopped. A limited stimulus focusing on business support and extended unemployment benefits is now feasible in the lame duck session, though it’s likely to be hard fought and small, in part because overlap in spending agenda remains limited, in part because Democrats will hold out hope that they can swing the Senate.

All of which creates an interesting dynamic. Overall, Biden’s orientation on domestic policy is radically different from that of President Trump, but he’s likely to be far more constrained in implementing it. While the Biden administration will be less constrained in their foreign policy... but there the agendas and orientations are actually more aligned with those of the Trump administration.

On domestic policy, it’s going to be rule by executive order (also reined in by a more conservative judiciary, at every level)... With Biden as quick to undo Trump’s orders as Trump was in undoing Obama’s. That will mean a significant reassertion of the administrative state and heavier regulatory oversight in every area of the US economy, most particularly around environment and big industry.

Biden will (appropriately) have more freedom on foreign policy, and I think we can expect a different approach on trade policy. It won’t be free trade as I think of it, but neither will the Trump-style trade wars continue. He will have to confront China whether he wants to or not; the Chinese will give him little choice. 

There is a real chance Biden can improve our Chinese policy. This should not surprise long-term readers, but I have opposed tariffs for decades, and specifically the Trump tariffs. They are clumsy and they cost the US money.

This week Trump targeted a number of companies with links to the Chinese military. That is far more useful than tariffs. China is indeed a problem, but tariffs were/are the wrong tool. 

Huawei, as an example, and as my kids would say, has issues. So do scores of other Chinese companies. We should not be working with them. There are others that are of no consequence and we can work with them. Let’s figure it out. I am hopeful the Biden administration can do this, whereas Trump would never walk back his tariffs. The architect of our current Chinese strategy, Peter Navarro, euphemistically called an economist, cannot leave too soon in my estimation. (I should point out that I’ve been consistent in my criticism on this front.)

We may see more trade cooperation elsewhere. Biden may revive the WTO mechanisms that Trump stifled, for instance. The WTO has problems and we should work to fix them, but it is a useful forum.

Biden will also bring the US back into the Paris Climate Accord, but it will be symbolic without legislation to impose new rules within the US. That’s unlikely with a Republican Senate. 

That being said, the US has significantly reduced its carbon emissions in the last four years, just as we have done for the last 40. China, in contrast, just announced approval for up to 500 new coal plants. The Paris Climate Accord doesn’t deal with the real problems.

Let me make it very clear: I’m a strong environmentalist. I don’t want to see the air I breathe or anything in my water other than scotch. I am seriously working with a group of investors/managers here in Puerto Rico to build large solar fields to help replace our coal plants. It’s actually quite the opportunity given the cost of electricity on the island. Solar has the potential to be more than competitive.

I truly believe that by the end of the decade it will be cheaper to build solar farms than to build even a natural gas plant. I would like to see the conversion of coal plants to natural gas as a transition to cleaner power production. That is potentially possible under a Biden administration.

In fact, with the Senate looking so narrowly divided in any scenario, we may be overthinking how much “control” matters. Neither party will be able to pass major legislation if even a couple of its own members disagree, and both have a few rebels. 

That makes big changes (of any kind) unlikely to pass—unless they get bipartisan support. As Clinton/Gingrich demonstrated, bipartisan legislation actually has the chance of making a difference.

That doesn’t mean nothing will change, though. “Stuff” flows downhill, as they say, and events in Washington have effects elsewhere.

Local Dilemma

The summer economic bounce seems to have run its course, and I think we know why. The growth was mostly artificial, generated by the trillions of dollars consumers received from government and central bank programs. These have now expired, or will soon, and the politicians have been unable to agree on a new package.

The prime sticking point is aid to state and local governments, which Republicans oppose. Now the only way it can happen is if Democrats win those Georgia runoffs. And even then, it wouldn’t happen until January. Unemployed people and small businesses can’t wait that long. So I strongly hope Congress will pass a smaller package in the next few weeks that gets help to individual citizens and businesses.

Many states and cities were already in deep financial trouble before the pandemic. Now they have simultaneously lost tax revenue and seen expenses rise. This will be a serious problem, as explained in this recent note by Bain’s Macro Trends Group.

US states will face a large budget shortfall in the next few years due to the COVID-19 pandemic’s effects on the economy. States will have to choose between raising taxes and cutting spending to close the gap. We expect most will choose the latter given worsening pension liabilities and the current US economic trajectory. Businesses that rely on government contracting demand should prepare for a slow recovery from the COVID-19 recession.

According to a new analysis from Moody’s Analytics, US states could be facing an aggregate budget shortfall of up to $430 billion for the 2020–22 years. Nevada, Louisiana, and Florida are facing the greatest budgetary gaps, while Illinois is the most indebted US state due to its $230 billion in pension liabilities. Connecticut has the highest debt-obligation ratio, allocating 31% of state revenues to bond, pension and retiree health obligations.

This will be a problem in multiple ways. First, those states (and many cities within them) will have to either raise taxes or cut spending. Their ability to raise taxes is limited by the simple fact that residents can leave. So, as Bain says, they will have to cut spending, but that may drive people away, too.

But the problem is really everyone’s, because the money these governments spend goes to workers, who are also consumers, or to contractors. Somebody gets paid to build new roads, schools, fire stations, and so on. While it may not be in the local community, somebody manufactures police cars and fire trucks, stop lights and the multiple hundreds of things that cities need so that things work. If that spending disappears, so will many jobs, and not necessarily in the same locations.

This isn’t a small problem. State and local spending is 10% of GDP. Knock 2% of that off and it makes coming out of a recession much more difficult. Here’s a chart from Calculated Risk showing the contribution state and local government makes to real GDP.

Source: Calculated Risk

You can see a quarter after the last recession where state and local spending (or lack of it) knocked something like 70 basis points off the GDP change, and a smaller amount for years afterward. The recession we are in now is considerably worse than that one, and may well last longer.

That doesn’t mean Congress should bail them out, though. That would simply transfer the problem from one pocket to another one, and the federal government has its own debt problems. There’s really no good solution here.

That said, it would help a lot if we could get past this virus problem. And on that point, we may have some new hope.

Shot in the Arm

This week Pfizer (PFE) said its coronavirus vaccine trial was 90% effective in preventing infections vs. the placebo control group, with no major side effects. That’s impressive and, if further data confirms it, will be just what the doctor ordered for both our health and the economy. 

And other companies may not be far behind. Moderna will release its data any day now, and the preliminary report sounds quite encouraging. We may have several vaccines by March/April. The problem will be actually getting them.

The sources I’ve consulted believe Pfizer could get FDA approval before year-end, and possibly others, too. Then we have to start thinking of logistics and timing. 

Pfizer says it will have 50 million doses available before January. Each patient receives two doses four weeks apart, so that means 25 million people. The drugs have to be frozen and shipped at super-cold temperatures, so distribution will be a challenge. They will figure it out, but not without some problems. 

Freezers malfunction, syringes break, records get mixed up. Stuff happens. Nonetheless, it will be a start. If all goes well, we could have most of the country immunized by mid-2021, and worst case by the end of Q3 2021.

But there are more questions. Will most people want the vaccine? That remains to be seen. Many Americans have trust issues, as the election just highlighted. And will the vaccine really be 90% effective in the real world? 

That’s unknown, too. By the way, a 90% effective vaccine is statistically at the far-right edge of the charts. Flu shots are in the 50% range. The measles vaccines we took as kids were 93% (and eliminated the measles crisis).

Economically, will everyone immediately resume their prior spending and movement, or will some stay cautious? For how long? 

As we’ve seen, even a few can make a big difference. Dave Rosenberg put a pencil to this and came up with these 2021 GDP estimates, based on vaccine timing and efficacy.

Source: Rosenberg Research

Those numbers are full-year 2021 GDP estimates. They suggest we can expect 3% or better growth next year if the vaccine is at least 55% effective and is widely distributed in the first half of the year. But as Dave notes, everything has to go right for that to happen. Realistically, the recession will continue at least through Q1 2021, even if the vaccine campaign goes well.

However, remember that GDP is down by 10% from where we were. We are not going to be back to “normal” by the end of 2021. Recoveries in GDP and employment typically take about 46 months. But Rosie is right, a vaccine is critical.

Let’s take a quick look at what we are facing. Some 20% of small businesses are closed. Most of those will never reopen. Chain stores have closed 47,000 locations and are aggressively renegotiating rents. Some are simply refusing to pay their rent because they don’t have the money. They are trying to hold on until the economy turns around. They can’t do that if they don’t hoard cash The longer this goes on, especially if we see more closure orders, the more businesses we are going to lose. That means local tax revenue and jobs.

The Homebase data, which I’ve shared before, shows improvement has flatlined since July.

It’s even worse for industries. Overall, small business revenue was down 21%. 

Leisure and hospitality were down 47% as of October. The new restrictions we are seeing in many states are going to make it much worse.

Source: WEF

It gets worse from city to city, as you can see in the map and table below.

Source: WEF

I could literally bury you in data on business closures and government revenues. Back in June, Mike Roizen and I wrote a joint letter saying the first priority should be protecting the vulnerable, wearing masks and social distancing. We were not in favor of further lockdowns. The data continues to agree but states are again doing it. This is going to further hurt small businesses.

It is unrealistic to assume we will go back to some kind of “normal” in 2021. I think even 2022 will be a stretch. We have had a massive and severe blow to our economy. The chart below from the Center on Budget and Policy Priorities shows how it took four years to recover from the 2001 recession in terms of jobs and over six years for the Great Recession. The current recession is much worse than either of those.

Source: CBPP

The recovery is going to be longer and slower and more costly in terms of stimulus and Federal Reserve involvement.

I am an optimist. I think our entrepreneurs will come back as quickly as they can, but they are going to need capital and resources. For those of you with resources, look around your neighborhood. 

There are businesses that had to close with experienced and proven successful management. It wasn’t their fault. You may have an opportunity to invest in “startups” with proven management.

Between vaccines and the positive reports I’m getting on the far-UVC technology (lights that kill bacteria and viruses on surfaces and in the air and don’t harm humans), the world is going to be a much more positive place in 3 to 4 years Maybe even sooner.

We have a chance to return to the next new normal. Just don’t expect it to show up in 2021. We will see the green shoots, of course, but it will look more like the recovery of 2009-14. It helps that we can now rule out the possibility of higher tax rates. Raising taxes during a recession is never a good idea and would have created a double-dip.

The stock market is a different animal. All the stimulus and Federal Reserve largess, along with technological breakthroughs and vaccines, may be enough to keep the markets levitating. Stay tuned.

Puerto Rico and Dallas

I still plan to visit Dallas for Thanksgiving with my kids, though I will admit the recent upsurge in virus cases has me a little nervous. We’ll see…

And with that, I will hit the send button. I am learning more about Zoom and am starting to use it, as I miss the face-to-face contact. I look forward to being able to fly again later next year. You have a great week, and call a friend that you can’t see today but maybe next year…

Your wanting some normal in my life more than you know analyst,

John Mauldin
Co-Founder, Mauldin Economics

The missing successor

China’s most senior officials endorse economic plans for years ahead

But they left one little thing out

Almost exactly ten years ago, in a typically roundabout way, China made clear who its next leader would be. A man who, not long earlier, had been far less famous than his folk-singer wife was made vice-chairman of the Communist Party’s Central Military Commission. Sure enough, two years later, he took charge of the party and the armed forces and became China’s most powerful ruler since Mao Zedong. 

Were precedent to be followed, a meeting of senior officials in Beijing this week would have provided just such a clue about who would succeed Xi Jinping. It provided nothing of the sort.

That is no surprise. When China’s constitution was revised in 2018 to scrap a limit of two five-year terms for the post of state president, which Mr Xi also holds, it was a clear signal that he did not wish to step down when his ten years were up. As head of the party, he was not bound by any term limit. But his predecessor, Hu Jintao, had given up both party and state roles in quick succession. Mr Xi had been expected to follow Mr Hu’s lead.

For anyone still in doubt about Mr Xi’s intentions, the party’s just-concluded meeting gave a hint as obvious as the one in 2010 that heralded his rise to power. A communiqué issued on October 29th, at the end of the four-day conclave of its roughly 370-strong Central Committee, said the gathering had endorsed “recommendations” for a five-year economic plan and a blueprint for China’s development until 2035 (full details of these had yet to be published when The Economist went to press). But it made no mention of any new civilian appointment to the military commission.

The post of vice-chairman is an important one for any future leader to hold before taking over. Mr Hu got the job three years before he became general secretary. Without experience of how military command works, a party chief may find it hard to assert control over the army. 

There are still two uniformed vice-chairmen. But the continuing absence of a civilian at that level means China has no leader-in-waiting when time has all but run out to start learning the ropes before the party’s 20th congress in 2022. A civilian vice-chairman would also be a member of the Politburo’s Standing Committee. 

But a reshuffle of that seven-member body in 2017 did not include anyone of the usual sort of age of someone being groomed for succession.

There are occasional complaints in China about Mr Xi’s seeming determination to hold power indefinitely. In August Cai Xia, a public intellectual, was expelled from the party and stripped of her pension by its most prestigious academy for training leaders, the Central Party School, where she had studied and taught for 20 years before retiring. 

Among comments that apparently resulted in her punishment was her description of Mr Xi’s scrapping of the two-term limit as something the Central Committee had been forced to swallow “like dog shit”. Ms Cai is now abroad.

But in so far as can be guessed from China’s opaque political workings, Mr Xi remains as powerful as ever and seemingly fit enough to keep going well beyond 2022. He will turn 69 that year—by convention too old to remain in office, but that is not a hard-and-fast rule. While liberals like Ms Cai grumble—as, no doubt, do those who have suffered as a result of his ruthless campaign against corruption and his political purges—there is little sign of strong anti-Xi sentiment among the public.

In some ways this has been a good year for Mr Xi, with many Chinese proud of their country’s success in crushing covid-19 and getting the economy back on track. Party propagandists have been working hard to boost such sentiment. The term “people’s leader”, rarely applied to his post-Mao predecessors, is sometimes used in state media when referring to Mr Xi (the Politburo used it for the first time last December).

It may also, however, be an anxious time behind closed doors. Party congresses rubber-stamp decisions that have been made in secret beforehand. Even though the next one is still two years away, the build-up is a tense time in Chinese politics as leaders bargain over policy and appointments. 

The party’s 18th congress, at which Mr Xi came to power, followed a protracted political struggle highlighted by the dramatic downfall of Bo Xilai, a contender for highest office. There is no sign that Mr Xi faces another such challenge. But in July the party launched a pilot scheme in a handful of places for a new purge, this time aimed at the judiciary, police and secret police. 

One stated aim is to root out “two-faced people” who are disloyal to the party. It will be rolled out nationwide next year and wrap up early in 2022, a few months before the 20th congress.

It is not yet clear how Mr Xi intends to exercise his power beyond the congress. He could simply keep his current positions. Another rumoured option is that he might prefer an even grander title than that of general secretary, which has not always indicated that the holder wields supreme power. 

In the 1980s Deng Xiaoping, whose authority stemmed from his position as chairman of the military commission, sacked two general secretaries; Mr Hu became general secretary in 2002 but remained overshadowed by his predecessor, Jiang Zemin, who held on to the crucial military position until 2004. Mr Xi could revive the title of party chairman (abolished in 1982) and raise himself to the great helmsman’s hallowed level.

He will certainly use the congress to install more of his protégés. By that time the prime minister, Li Keqiang, will have served his constitutionally mandated maximum of two terms. Mr Li was not installed by Mr Xi, who may look forward to appointing someone closer to him. Unusually, there is no obvious person who has the experience (serving as deputy prime minister is usually a prerequisite), is the right kind of age (67 or younger is the norm) and crucially, who is close to Mr Xi. 

Leaving this choice until closer to the time may not bother him, however. Since Mr Xi became leader, the prime ministership has become less important. He has taken over its core responsibility: directing the economy.

The biggest unknown is who would emerge as China’s paramount leader if Mr Xi suddenly becomes unable to rule, as a result of death or illness. There is no clear line of succession within the party—without Mr Xi, no one in the currently 25-member Politburo would stand head and shoulders above the rest. 

Younger leaders, such as the party chief of the south-western region of Chongqing, Chen Min’er, who has long been tipped as a forerunner for post-Xi leadership, may lack sufficient seniority to take over in an emergency. Mr Xi’s sudden departure could plunge China into political turmoil.

The Central Committee’s just-concluded meeting may have made Mr Xi’s plan to retain power in 2022 even more certain. It has done nothing to instil confidence in China’s political future.  

What the shift on austerity means for markets

Greater dispersion of returns likely for firms and countries as debt and deficits surge

Mohamed El-Erian

IMF managing director Kristalina Georgieva and World Bank president David Malpass bump elbows after a joint press briefing in Washington. © AFP via Getty Images

There has been a stark shift in global economic thinking on austerity. That was strikingly evident at the annual meetings of the IMF and World Bank earlier this month.

In sharp contrast to what the IMF and others urged after the 2008 global financial crisis, senior figures at the meetings encouraged governments “to spend their way out of the pandemic”.

The world is now set to experience another surge in debt and deficits from levels that only nine months ago would have been deemed unthinkable by most economists and financial market participants.

Many in markets may be tempted to see this as unambiguous good news, heralding a period in which fiscal policy would reliably and repeatedly join monetary policy in flooding the system with liquidity and pushing asset prices higher around the world.

The impact, however, is likely to be a lot more nuanced — dominated by pronounced dispersion in risk-return outlooks for companies and countries as opposed to another significant “melt up” of stocks, emerging markets and corporate bonds.

The change in thinking on austerity reflects a revisit of what’s both desirable and feasible. It is almost universally acknowledged that governments should go out of their way to avoid “scarring”, where short-term problems become structurally embedded in the economy.

A fiscal bridge over a damaged economic landscape owing to Covid-19 is seen as critical to avoid viable companies experiencing a cash crunch becoming bankruptcies, and furloughs turning into long-term joblessness.

This approach is more feasible now that interest rates are extremely low and central banks readily buy what was, not so long ago, an inconceivable amount of government and corporate bonds.

It is tempting to see this as unambiguously good for financial asset prices that have been long-supported by loose monetary policy. Indeed, it may seem even better as large deficits not only flood the system with funds financed by central banks but also involve outright grants and other forms of highly concessional income support to households.

The notion of generalised support for the markets needs to be heavily qualified, however. As we continue to live with Covid-19, we should expect government support gradually to shift from a universal approach to one that is more selective: people over companies, viable sectors over permanently damaged ones and more partial income replacement for households.

The result will be a growing distinction between favoured stocks and bonds over orphaned ones. The former includes several healthcare, technology and green economy names. The latter is heavy on hospitality and other elements of the services sector; these face a significantly higher risk in bankruptcies and weakening of contractual debt terms.

Countries will also differ in their ability to sustain large deficit spending. What is not a problem for the US will be a headache for many developing countries that, as their debt and debt service obligations rise rapidly, find it harder to fund themselves through capital markets.

With their growth models and foreign exchange also challenged, they will turn more to the IMF and other sources of official funding. The only real question is whether the reschedulings that follow for some are pre-emptive and orderly or, instead, involve a prior payments default.

This greater dispersion in market winners and losers will come at a time when investors face difficulties in finding what they believe are reliable risk mitigators.

With yields suppressed to very low — if not negative — levels by central bank market interventions, government bonds risk a price fall as markets react to ever-increasing debt and, hopefully, a brighter growth outlook down the road. This is particularly the case for longer-dated maturities, unless central banks cross what could well be a Rubicon in financial market distortions by opting for explicit yield targeting for maturities that are well beyond the reach of their benchmark policy rate.

The old days of all-powerful bond vigilantes may indeed be over, at least for now. But this does not mean that further well-intentioned — indeed, necessary — surges in debt and deficits is unambiguously good for markets.

From a return perspective, it’s only likely to support specific sectors and companies, and in a subset of countries around the world. Elsewhere, it is likely to be insufficient to avoid the bankruptcies and debt reschedulings that accompany a global recovery that is too small, too uneven, and too uncertain.

The writer is president of Queens’ College, University of Cambridge, and adviser to Allianz and Gramercy

Contrarian scenarios that could upset the market consensus

Year-end forecasts from strategists narrow to a common outlook as the pandemic shock eases

Robin Wigglesworth

Supporters of Donald Trump in Georgia, where senate elections could upend market expectations for changes under incoming president Joe Biden © Ben Gray/AP

This is the time of year when financial analysts figuratively gut the global economy and examine the entrails to divine what the next year might hold. What is always a difficult exercise looks particularly hopeless right now.

It is tempting to mock the tsunami of year-ahead outlook that gushes out of investment banks’ research departments this time every year. When someone turns out to have nailed a prediction for where bond yields or the stock market are heading it is often more down to luck than forecasting ability.

It is safe to say no one saw how 2020 would shape up, for example. But truthfully, even if a fortunate analyst had enjoyed a spell of divine revelation and been told by the sellside gods that the world would suffer from its worst pandemic in a century and swaths of the global economy would judder to a halt, they would likely still have struggled to predict where markets have ended up this year.

Nonetheless, although most analysts will willingly admit to the fruitlessness and frustration of having to pump out year-ahead forecasts, the exercise itself is valuable. It helps to construct a mental framework, and the value is in the thoughtfulness of the analysis, not the price level targets or yield forecasts. 

Moreover, it gives analysts an excuse to spend quality time with their investment manager clients, even if it will have to be virtually over the Skype, Zoom, Teams or BlueJeans apps this year. 

Unfortunately, there is a relatively bland consensus about what the current year holds, with nary a single analyst diverging meaningfully from the central scenario. That is a testing few months as the second coronavirus wave takes its economic toll, but then a strong economic recovery in 2021 powered by vaccines and ultra-easy monetary policy. 

This is expected to lead to higher stock markets, somewhat higher long-term bond yields, a weaker dollar and another good year for corporate credit. Plus ça change. 

The only disagreements surround just how strong the equity rally will be, whether value or growth stocks will dominate, how high the 10-year US Treasury yield might venture, whether the dollar will slump or merely slink lower, and whether junk bonds or emerging market debt will do best. 

So for the record, here are some deliberately (if only slightly) contrarian suggestions for where financial markets could surprise the consensus in the coming year.

Equities are likely to climb higher, but pricey growth stocks could continue to outpace cheaper value stocks. This is partly because the Democrats will probably eschew a full-on assault on fast-growing Big Tech companies. Growth stocks will also benefit if treasury yields do not climb much more. These are valued at a premium because of future earnings rises. If yields increase, these earnings are discounted by higher rates.

For sure, the shape of the Treasury curve will fluctuate as investors wrestle with the ebb and flow of economic data. But under a contrarian scenario, it will not end the year meaningfully steeper, and could easily flatten. Inflation would remain quiescent and low rates globally would help keep long-term Treasury yields capped. 

In this scenario, inflation-protected US government debt — a perennial favoured pick by analysts around this time of the year — could once again prove disappointing.

The burst of investor love for emerging markets is harder to argue with. Although the MSCI EM index is up over 10 per cent since summer — almost twice the S&P 500’s gain — it still trades at nearly half the price-to-earnings ratio. This discount seems excessive by historical standards. But emerging markets do have a nasty way of disappointing when optimism is this high.

One of the most contrarian investment themes of 2021 could be to short volatility. In other words, sell derivatives contracts that provide other investors with insurance against stock market turbulence. Although risky, the severity of the market mayhem of 2020 means that many volatility-sellers have been carted out and investors are still paying a healthy premium for protection.

Finally, sentiment around the dollar is already so bleak that it might be tempting to think the US currency will actually strengthen slightly in 2021. 

But perhaps the biggest immediate uncertainty for financial markets is the upcoming Senate races in Georgia. If the Democrats triumph and win control of both houses of Congress and the White House, they could pursue a far more ambitious policy agenda.

That is likely to mean a greater fiscal stimulus coupled with sweeping tax increases and a re-regulation drive. Given how much this is at odds with current expectations, this would almost certainly lead to market upheaval.

Silver Could Be The Next Bitcoin

Peter Krauth


- Bitcoin has come a long way since 2009. Its price has risen spectacularly, and it's rapidly gaining wider acceptance and adoption.

- Silver and Bitcoin are both massively undervalued, and both go through huge rallies that can prove very lucrative.

- While there are differences, the two assets are not mutually exclusive. Investors should simply own both.

At the risk of offending bitcoin or silver investors, I think this is a question worth asking.

I have been researching and following these assets for some time.

In my view, it's not an either-or dilemma. You should simply own both.

I believe silver and bitcoin remain massively undervalued, and that the market fundamentals of both these assets look extremely bullish.

The point is, like bitcoin, silver goes through massive rallies. Participating in them can be very lucrative.

So let's review the outlook for bitcoin, then draw the parallels to better understand what may lie in store for silver.

The Case for Bitcoin

Born from its modest 2009 origins in the wake of the 2008-2009 financial crisis, Bitcoin has come a long way, rising dramatically in value from its early days.

Today, its influence is not only undeniable, it's inevitable.

Consider that US Fed Chair Jerome Powell recently told an IMF-hosted digital payments panel that 80% of central banks globally are exploring the issuance of a central bank digital currency (CBDC). He also said, "We do think it's more important to get it right than to be first and getting it right means that we not only look at the potential benefits of a CBDC, but also the potential risks, and also recognize the important trade-offs that have to be thought through carefully."

As for being first, Powell was likely responding to China's head start, where they are already testing in select cities, and plan to launch their own digital currency later this year.

European Central Bank president Christine Lagarde also said the ECB is very seriously reviewing the creation of a digital euro.

Digital versions of traditional currencies not only mean it will be easier to create more, but also to control them more. It inevitably lends further credibility to Bitcoin. As investors come to realize it can't be inflated or controlled, and has a finite total number of units (21 million) to be mined, they will gravitate toward the highly superior alternative.

That's why Bitcoin is increasingly seen as a safe haven. It has become more accessible through a growing number of cryptocurrency exchanges, and it has gained distribution through payment processors like Square (NYSE:SQ) (who recently bought $50 million worth of Bitcoin) and PayPal (NASDAQ:PYPL). It's accepted by big name retailers Microsoft (NASDAQ:MSFT), Starbucks (NASDAQ:SBUX), and Whole Foods, while the list keeps growing.

And Bitcoin ownership is soaring. The number of Bitcoin addresses with a balance of $1,000 or more has just hit a new all-time high. JPMorgan recently said it expects over time Bitcoin will grow in popularity with millennials, and Kanye West just reiterated his support for alternative currencies like Bitcoin.

Bitcoin-Silver Parallels

Much of what I've said about Bitcoin is also true for silver.

It's not easily produced, there's a limited supply, it's seen by many as money, and it's a safe haven. And it can't be inflated.

Like Bitcoin, silver also goes through huge rallies which can lead to huge payoffs for investors.

But a couple of things are different between silver and Bitcoin.

For one, the "elites" don't pay much attention to silver. It's there, it's relatively cheap, and it's a small market.

Also unlike Bitcoin, the supply of silver is not finite. And as I've pointed out previously, just 28.7% of new silver supply comes from primary silver mines. 71% of newly mined silver is only produced as a by-product of other metals like gold, copper, lead and zinc. So a large portion of newly mined silver is not driven by its price. If silver prices rise dramatically, that doesn't imply more production.

Here's perhaps one of the most interesting comparisons. According to Steve St. Angelo of the SRSrocco Report (at $1,300 gold and $20 silver), all the investment gold worldwide is worth $2.93 trillion, all mined Bitcoin so far is worth $240 billion, and the total investment silver market is worth $52 billion.

My main takeaway is obviously not to pit silver against Bitcoin. Rather, it's to point out their similarities, and the opportunities they offer going forward.

Investors should not look these options as mutually exclusive. Instead, they should simply own silver and Bitcoin.

Yes, they are likely to be volatile. But they also both have wild secular bull markets ahead of them.

And that's way more important than any differences.

If Belarus Falls

Russian military control of Belarus would be an existential threat to Poland.

By: Jacek Bartosiak

In recent years, Russia’s hand has stretched farther and farther – into Georgia, Ossetia, Abkhazia, Crimea, Donbass, Armenia, the Black Sea, Syria and Libya. But Belarus, a country about the size of Kansas, has deftly maintained its strategic autonomy through 26 years under President Alexander Lukashenko. 

Now, however, Lukashenko’s leadership – and Belarus’ independence – is in doubt after months of protests following the country’s disputed presidential election.

If Belarus were to fall to Russia, the impact on the countries between the Baltic and Black seas – especially Poland – would be on par with Germany’s absorption and partition of Czechoslovakia before World War II. To put it bluntly, there is a fundamental difference if Russian combat units, particularly the 1st Guards Tank Army, are stationed in Belarus, with all the necessary heavy logistics units, versus the status quo where they can only “rotate into” allied maneuvers, have unreliable air defenses, and are reliant on long-range reconnaissance. 

Such a transformation on Poland’s eastern front would force Warsaw to change its force posture, its contingency planning and possibly its force modernization plans.

A Precedented Threat

Warsaw has seen threats like this before. In the interwar period, until the fall of Czechoslovakia, Germany could credibly attack Poland only from Western Pomerania. 

No other area offered the strategic depth and operational basis to support large German units and logistics lines for an assault on Poland. 

East Prussia did not provide such a basis and could support only an auxiliary strike. Connections between Brandenburg and Greater Poland were poor because of the swampy areas around the Warta River. 

But German Silesia had none of these issues. What it did have, however, was a threat to the south from Czechoslovakia, which was allied with France. Thus, Germany could not launch a strike on Poland from there, fearing a Czechoslovak intervention, or that the Polish army might attack its rear or wing and cut it off from the German core.

Germany’s inability to strike Poland from more than one main direction greatly improved Poland’s strategic position and aided its defensive preparations. Moreover, it was relatively far from Western Pomerania to Warsaw and the Upper Vistula River Valley, which could be a strategic line of defense in the event of a longer war.

That changed in 1939 with the collapse of Czechoslovakia. Germany could now launch a main attack on Poland from both Western Pomerania and Silesia. And it did. Hitting out from Silesia, German forces defeated the Lodz Army and then the Modlin Reserve Army on their way to Warsaw. 

In addition, Germany launched an auxiliary strike from East Prussia – the closest launching point to Warsaw – crossing Poland’s defensive lines near Mlawa.

Thanks to the partition of Poland’s southern neighbor, Germany was also able to execute an auxiliary strike from Slovakia, outflanking the Krakow Army, which was crucial to Poland’s war plan. (The Germans also demanded access to Subcarpathia – today mostly part of southwestern Ukraine – from Hungary after the partition of Czechoslovakia, but Hungary refused, risking Hitler’s anger.) 

By the second day of the war the Krakow Army was in retreat, which left the flanks of the other Polish armies vulnerable, creating a cascade effect. Having lost the border battle on the entire long front, Warsaw ordered a retreat across the Vistula and San rivers for all its armies.

Beyond the battlefield, the geopolitical conditions on the eve of the war created a hopeless situation for Poland. Leaving aside the Molotov-Ribbentrop pact, which made Poland an object in the balance-of-power game (and not an actor, as Warsaw mistakenly thought), Poland’s leadership concluded that the Polish army had two military tasks to fulfill to support the country’s political goals: not to be destroyed west of the Vistula, and thus to continue the fight, escalating the situation until allied France and Britain could join and turn the conflict into a European war. 

For Poland’s leaders, such an escalation had to end in the defeat of Germany, since Germany was, after all, much weaker in general than the Western powers. In this way, Warsaw decided to call Hitler’s bluff when he issued an ultimatum for Poland to subordinate its policy to his own.

The two tasks required the Polish army to have a forward presence along the long German border, ensuring that Western powers didn’t get the impression that the Poles weren’t willing to join the war effort by defending themselves. The army was successful in both tasks – it stood firm west of the Vistula and tied up the bulk of German forces with the Battle of the Bzura and the Siege of Warsaw. 

The only thing missing, of course, was the intervention of Poland’s allies, which was made nearly impossible by the Molotov-Ribbentrop pact, which enabled Germany and the Soviet Union to partition Poland.

Compromised Security

As things stand today, without the stationing of major forces and logistics in Belarus, Russia is unable to launch an attack on Poland, even from the bordering Kaliningrad region. 

It could attack the Baltic states from northwestern Russian cities like Pskov and St. Petersburg, or threaten to cut Polish communication lines to the Baltic states, but it could not launch a full and serious assault on Poland, unless Warsaw sent most of its forces across the Niemen and Daugava rivers. (The Kaliningrad region is even less convenient as an operational base than East Prussia was for the Germans. 

The Russians were rather concerned that Poland would try to invade the region; hence, contrary to popular belief, they did not station any important forces there.)

But with the presence of a full-blown Russian army in Belarus, the Russians could, from at least two directions (Grodno/Wolkowysk and Brest/Damachava-Slawatycze), launch a major attack on Warsaw via several roads leading to the cities of Biala Podlaska, Radzyn, Siedlce, Miedzyrzec and Minsk Mazowiecki, and then on to the suburbs of Warsaw on the eastern side of the Vistula.

The Russians would also be able to (as they have done several times throughout history) bypass Warsaw from the south, beginning in Wlodawa on the Belarusian border and making their way to the Vistula between Radomka and Pilica. They could also move through Ukraine to create another operational line through Chelm, Lublin and Pulawy, thereby dispersing Polish defenses.

The Russians could then conduct an auxiliary strike from the Kaliningrad region along the Vistula valley, further dispersing Polish forces in the vast eastern part of the country, which is divided by the three main Polish rivers: the Vistula, the Bug and the Narew.

With Belarus in Russian hands, it would be impossible to cross the Suwalki gap – the tiny area where Poland and Lithuania share a border, between Kaliningrad and Belarus – to defend the Baltic states in the event of a war with Russia, making their security dependent on the will of Moscow. 

It would also pose yet another Russian threat for Ukraine, on its northern border fairly close to the capital, Kyiv, and to major roads in the west, which, if lost, could cut Ukraine’s communication lines with Poland and the West. 

Poland would also have to reconsider its defense plans, as its security, particularly on its eastern border, would be severely compromised.

In the meantime, Western European states’ apparent inability to replace the American military presence in Eastern Europe, if the Americans choose to leave, creates an even more insecure condition for countries in Russia’s neighborhood. 

If Belarus is absorbed by Russia, these countries would be subject to Russia's will and capability to project power. In such a scenario, it’s conceivable that Western European states would be either unable or unwilling to defend Poland’s security and territorial integrity, let alone that of the Baltics. 

It’s time to wake up to that possibility before it becomes a reality.