Over-exuberance Warning on China Trade Talks, Housing Reform and Fed Rate Cuts
Author: Greg Valliere
September 6, 2019
WHILE WAITING FOR THIS MORNING’S JOBS REPORT, which may be confusing because of seasonal quirks, we offer a curmudgeon’s take — there’s lots of over-exuberance on three key issues that have excited the markets:
China trade talks: Yesterday’s stock rally ostensibly was because trade talks will resume in October, but that simply means, in our opinion, that a final deal probably won’t come in 2019. That’s because it will take several months to resolve key issues that have eluded any compromise — Chinese subsidies of state-owned companies, intellectual property theft, an enforcement mechanism, etc.
Thus the negative impact of this trade war — with uncertainty gripping manufacturing sectors in both countries — is likely to persist well into 2020, even if a tentative deal is reached in January. Most significantly, we think Chinese officials must be poring over U.S. political polls that show Joe Biden well ahead in key states. So why should they be eager to finalize a deal with Donald Trump?
Was news that talks will resume in a month really worth 350 points on the Dow yesterday? There’s a very long slog ahead, with weeks and weeks of confusing tweets from Trump, continued feuding among Trump’s hawks and doves, and harsh new tariffs staying very much in place.
Housing reform: Hats off to the Treasury Department for at least beginning the process of reforming Fannie Mae and Freddie Mac. But the plan released yesterday was short on details and certain to encounter opposition in the House, where Democrats want to focus on affordable housing, not freeing the agencies from government control. Fannie and Freddie back about half of all housing loans.
While most of yesterday’s proposals will require Congressional approval, there’s a possibility of regulatory reform made by the Federal Housing Finance Agency, which oversees the agencies. The FHFA, which is filled with Trump loyalists, could end the conservatorship that Freddie and Fannie were forced to enter after the financial crisis a decade ago. And it’s possible that the agencies’ payments of its profits to Treasury could ease.
It’s unlikely, however, that any FHFA reforms will pay imminent dividends to hedge funds and other investors who have been betting recently that there could be a resolution — finally — of who gets the agencies’ profits. Anything that might look like a shareholder give-away would ignite a firestorm in Congress and could become a political liability for Republicans who already are worried that housing is an issue that could work against them in the upcoming election.
Fed rate cuts: Still another story that seems over-hyped is the belief that the Fed is on a path that could lead to three more rate cuts by winter. Assuming this morning’s jobs report isn’t a major downside surprise, the Fed is not inclined to ease aggressively.
What strikes us is that several Fed officials, most notably veteran Boston Fed President Eric Rosengren, are worried about wasting ammunition on an economy that is growing moderately. Obviously the economy is weaker than it should be as the trade war rages, and the enormously complicated Brexit dysfunction could further weaken the entire European economy.
But we sense a reluctance at the Fed to over-do the rate cuts. Would a 50 basis point reduction at the end of this month really make a difference for the slumping U.S. manufacturing sector? Probably not. What would make a real difference is the end of the trade war, which is not imminent despite yesterday’s market euphoria.
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