Don’t Leave Town Without It

More incrementally positive developments on the vaccine front bolstered risk sentiment in the US Tuesday as equities meandered near record highs and rates remained hostage to the same tug of war between ominous predictions about the economic fallout from new virus restrictions and the promise of a return to some semblance of normality next year.

The UK began a national vaccination campaign, and America’s regulatory apparatus took additional steps towards giving Pfizer the green light for emergency-use stateside. A peer-reviewed study of Oxford and AstraZeneca’s shot said the vaccine protects against severe disease, but more data is necessary to evaluate efficacy in older populations. There are still plenty of questions around Astra’s vaccine, but it’s generally seen as posing fewer logistical hurdles vis-à-vis deployment on a global scale than more efficacious inoculations from Pfizer and Moderna.

In any event, small-caps outperformed during the US cash session, but it’s worth noting that big-cap tech is riding a 10-session win streak.

The stimulus battle inside the Beltway continued, as lawmakers struggled to revive lost momentum from last week. Now, Mitch McConnell wants Democrats to abandon their calls for state and local government aid in order to get a deal done by year-end. In exchange, he’s willing to “set aside” his own demands for employer liability protection. Lawmakers, he said, can revisit those issues next year under the new administration.

“We can’t leave [town] without a COVID bill. The country needs it,” McConnell told reporters, as though he isn’t the main stumbling block. There’s just no way to get around that assessment. It’s not a matter of partisan finger-pointing. The fact is, Nancy Pelosi started with a Democrat-only, $3.4 trillion bill in May. She has now endorsed a bipartisan package with a price tag of $908 billion. In other words, she’s come down by $2.5 trillion. McConnell hasn’t budged from $500 billion since September.

For reference, McConnell, GOP hardliners, Democrats and moderate Republicans all agree on small business funding, an extension of unemployment insurance, and money for the vaccine rollout. The rest is up for debate.

“What I recommend is we set aside liability and set aside state and local, and pass those things that we can agree on knowing full well we’ll be back at this after the 1st of the year,” Mitch remarked.

Later, Steve Mnuchin said he presented Pelosi with a $916 billion stimulus proposal, which includes what he called “robust liability protections for business, schools, and universities,” as well as funding for state and local governments. Mnuchin’s plan would utilize $140 billion in unused funds from the Paycheck Protection Program and $429 billion from Treasury. The proposal was presented to Mark Meadows, Trump, McConnell and Kevin McCarthy, who said he supports it “100%.”

Of course, one shouldn’t forget that the Georgia runoffs will determine the balance in the Senate, and you’d be obtuse not to think both sides aren’t taking that into consideration. While the “emergency supplemental” (as Pelosi is calling the skinny relief bill currently under discussion) may not be affected by the outcome in Georgia, any additional stimulus will.

Nomura’s Charlie McElligott called the runoffs an “under-appreciated” tail risk on Tuesday. “A Democratic ‘shocker’ would create a full-throttled pivot back into ‘Blue Wave’ mode, implying a major upgrade of government deficit spending and fiscal stimulus expectations, with massive market implications on reflation- and economically-sensitive- proxies,” he added.

Treasurys were mixed Tuesday, as a tailing, “meh” three-year sale weighed on the front-end, while the long-end was richer by a basis point or two.

You’re reminded that the “x-ray” view of rates (if you will) is what matters. While breakevens hit the highest since May of 2019 last week, real yields remain deeply negative, underpinning risk assets.

“Once again, the real yields decline [has] kept DM rates at low levels, in our view, while inflation expectations moderately increase,” Goldman said. “The lack of a bond sell-off and rally in real yields in conjunction with a strong risk-on environment, likely reflect investors’ dovish expectations on the upcoming central bank meetings.”

“Given a divided government, we expect a smaller fiscal stimulus package and expect the deficit to decline to $2.7 trillion from $3.1 trillion [while] we expect the Fed to continue buying $80 billion per month of Treasurys, resulting in $960 billion of purchases during 2021,” TD’s Priya Misra said Monday.

But it’s more nuanced than that. If the Fed simply kept the composition of its purchases steady, Misra notes that it would only remove $640 billion in 10-year equivalents. This is why WAM extension matters. “We expect the Fed to extend the WAM of its purchases from 7y currently to 13y (QE3 proportions), decreasing net Treasury issuance net of the Fed to $1959 billion in 10y equivalents in 2021” Misra added. That assumption, she noted, is “a key reason for our range-bound forecast for long-end US rates.”

It’s still an open question whether the Fed will use the December FOMC meeting for a WAM extension “unveil” or simply take the opportunity to signal that a shift in the composition of its buying is imminent.

“The trend higher in domestic equities and breakevens appears more sustainable as nominal yields remain constrained by the 1-handle looming overhead,” BMO’s Ian Lyngen and Ben Jeffery said Tuesday afternoon. “The potential for a WAM extension to be unveiled next week is an obvious fundamental inhibition to the cheaper and steeper narrative, even if such an outcome is by no means a foregone conclusion.”

All of this is inextricably bound up with itself. The size of any stimulus dictates the size of borrowing, because everyone still insists that spending must be “paid for,” despite that being not just a demonstrable falsehood, but absurd on its face (absurd because it’s ridiculous to say that the US government needs to source and/or borrow dollars when it is, in fact, the sole, legal issuer of dollars on the planet). More supply would put more pressure on the Fed to ensure yields stay low.

In turn, the size of any additional stimulus in 2021 (i.e., above and beyond whatever compromise lawmakers do or don’t strike in the lame duck session), will depend in part on the result of the Georgia runoffs.

Oh, and this is a non sequitur, but Snowflake was briefly worth more than IBM on Tuesday.