December 1st Market Wrap – Tax Reform Stumbles – Corbyn Threatens Banks

Dow Rallies while NIFTY Slips
The Dow Jones index had a bullish performance yesterday, closing at 24,272.35 points – yet another new record. This means it’s rallied by over 1000 points in the space of around a month and a half, thanks to hopes of lower corporate taxes, robust economic growth (around the world, not just the US) and impressive corporate earnings – the key driver.

Markets in Asia went higher today too, following the American lead, Though the NIFTY50 took a battering, shedding over -1%. The index fell below 10,200 weighed down by metal stocks and index heavyweights like Reliance Industries and State Bank of India.

It’s not all bad news though. Yesterday we got new data which showed India’s GDP growth rebounded from a 3-year low in the June quarter thanks to stronger manufacturing performance. Still, the NIFTY seems to be struggling with staying above the 10,400 points mark, consistently falling back, this indicates a bearish trajectory for the time being.

European indices are also lower today, with Italy’s FTSE MIB falling the most, down almost -1%. In individual equities, healthcare stocks including UCB and Novo Nordisk got a boost thanks to an upgrade from Morgan Stanley – the latter being flagged as one of the banks favourites in the pharma space.

Tax Reform Stumbles
A little tax reform momentum was lost yesterday, after the Senate delayed a vote on the Republican tax bill until morning in the US today. Several factors were at play, the first being that Senator Bob Corker (R) seemingly held firm on his commitment that he would not vote for a tax bill that increased the US deficit. He said his vote on the bill would be dependent on some kind of trigger, which would automatically increase taxes if the bill didn’t generate the kind of economic growth the party hopes for.

The Senate parliamentarian said that a fiscal ‘trigger’ is not allowed, which has given more reason for skeptics including Corker to back away from the bill. If a few key Republicans vote against the bill, it may not pass, which would be yet another big stumbling block for Trump as he tries to finally get something passed after his failure on healthcare.

Commodities
Oil prices got a small boost from the OPEC meeting yesterday in Vienna. Arguably the vote for an extension of production cuts was already ‘priced in’ as expectations were high that the group would unanimously agree to continue with cuts, and indeed Russia said it would cut its oil output to the end of 2018. Here is a chart of Brent Crude’s movements since the news broke.

Yesterday Gold prices hit their lowest level in over a week, falling after a new round of promising American economic data filtered into the markets. The good news of lower joblessness and higher GDP did little to sway the markets from expectations of an interest-rate hike later in December. Gold prices have been falling consistently since they peaked in mid-summer.

No Love Lost between Labour and Banks
The leader of Britain’s Labour Party Jeremy Corbyn has hit out at banks and called them speculators and gamblers, who are right to be afraid of a Labour government getting into power.

In a video uploaded to Twitter, the socialist leader said, “Bankers like Morgan Stanley should not run our country but they think they do.” He then took a swipe at the Conservative government for protecting financial institutions interests, while adding that it was these banks which crashed the economy in 2008.

He is right, in that the careless actions of overpaid executives and bankers in both the US and the UK prompted the financial crisis, but failed to mention that it was a Labour leader (not Conservative), that encouraged risk taking in the City of London.

In his Mansion House speech in 2006, Labour’s Chancellor Gordon Brown (who would become Prime Minister the next year), said the British economy would succeed through ‘light touch’ regulation, a ‘competitive tax environment’ and ‘flexibility’. Only 2 years earlier, he had praised Lehman Brothers, the bank which had contributed directly to the crisis and collapsed in 2008. Lehman’s bankruptcy filing was the biggest in history, and its demise contributed to the loss of around $10 trillion from global equity markets.

Ed Balls, another Labour cabinet member, said in 2006, “I believe we are right to avoid prescriptive, heavy-handed regulation in Britain.” It turns out they were both wrong.

The concern among businesses is that a Labour government with a strongly socialist bent under Jeremy Corbyn and his Chancellor John McDonnell would seek to curtail businesses ambitions, increase corporate taxation and generally dissuade foreign investors from wanting to do business in the UK.

The problem with this combative approach towards banks is that, despite its past crimes and misbehavior, the financial services sector is one of the strongest assets the British economy has. A report earlier this year revealed that financial and related professional services workers contribute 1.5 times more to the economy than the average UK employee, while showing that the sector makes up over 10% of the UK economy. It also contributes the most amount of tax already, at 11.5% of the total income for the treasury.

Morgan Stanley said this week that a radical left-wing government under Corbyn is a more serious threat to British markets than Brexit, and that a ‘double whammy’ of Brexit and a Labour leadership could prove ‘toxic’ to UK stock markets.

Patrick Jones

Former ECB head calls time on debt & highlights risks to investors

Trichet
Mario Draghi’s predecessor is concerned

Eurozone growth is up across the board, earnings season in the US was impressive, the UK’s FTSE100 has had a stellar year despite Brexit worries, and even Greece’s economic woes look far less terrifying.

Everything looks better, doesn’t it? Aren’t we through the worst of the post-crisis economic downturn, so now we have less to worry about? Jean-Claude Trichet, the former President of the ECB (pictured), doesn’t entirely think so.

Speaking to CNBC, Trichet said, “Despite the fact that real growth is active, I wouldn’t say buoyant, but very satisfactory, we have some indicators on global leverage that are not reassuring.” Referring to massive debt levels across the world, he added, “We are now at a level (of debt) which is higher than immediately before the financial crisis, so there’s no time for complacency.”

The International Monetary Fund has repeatedly warned about global debt levels. The IMF’s deputy managing director David Lipton said, “We are seeing some greater leverage in the corporate world, in some countries for households, so that rising indebtedness and that increase in market risk really is something policymakers should keep an eye on.” Last year, global debt hit a record high of $152 trillion, while the IMF warned it added major risks to recovery.

Even China, which has relied heavily on debt to boost their economy in the past, is slowing down borrowing in order to reduce risk. Yesterday they pulled a $4.6 billion subway project in Inner Mongolia.

Additionally, Jean-Claude Trichet pointed out that a very long period of ultra low interest rates, coupled with quantitative easing programmes carried out by central banks, has allowed for the prices of financial assets like stocks to rise rapidly. This presents the risk of major bubbles in financial markets, which some would argue are already present.

Indeed, surveys indicate that a large number of investors think stock markets are overvalued, though they are still choosing to take on high levels of risk. Bank of America Merill Lynch’s new fund-manager survey (which includes over 200 people who manage $610 billion) shows a record number of survey respondents are taking higher-than-normal risk, at a time when US stocks are close to their highest valuations in history. Overconfidence here could be dangerous. The data indicates investors are feeling emboldened at a time when they should be more cautious.

Regardless, US markets are likely to rise further, pushing up stock prices. UBS thinks tax cuts in the US could boost S&P500 earnings per share by at least 6.5% in 2018, with telecom and financials predicted to be the biggest winning sectors. They noted that the S&P500 rallied by over 40% after the 1986 corporate tax cut under Ronald Reagan, so this seems likely.

Patrick Jones