Goldman’s US Dollar View is Wrong on Biden Win and Vaccine

greg beier macroESG.com monday 12 october 2020 03:33 PM EDT

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Actionable Ideas:

Goldman’s US dollar view is wrong on a Joe Biden win and the vaccine. Why?

• The US dollar weakened under Trump’s divisive leadership. Logic suggests it would therefore rally on the US coming together.

• Biden’s decades of bipartisan experience and bipartisan support would translate to a stronger dollar (barring, of course, more civil disturbances from police shootings).

• Dr. Anthony Fauci says that broad availability of a vaccine may not be possible until the 2nd quarter of next year - at the absolute earliest.

• There is far too much vaccine optimism already priced into the markets, leaving a downside surprise more likely than upside.

Goldman Sees the US Dollar Headed Lower

Bloomberg reports that Goldman’s view of the dollar published this past Friday is:

• “The risks are skewed toward dollar weakness, and we see relatively low odds of the most dollar-positive outcome -- a win by Mr. Trump combined with a meaningful vaccine delay.”

• “A ‘blue wave’ U.S. election and favorable news on the vaccine timeline could return the trade-weighted dollar and DXY index to their 2018 lows.”

• “The wide margin in current polls reduces the risk of a delayed election result, and the prospect for near-term vaccine breakthroughs may provide a backstop for risky assets.”

• Furthermore, Bloomberg reported that Goldman, “…recommends investors short the dollar against a volatility-weighted basket consisting of the Mexican peso, South African rand and Indian rupee. The strategists also suggest buying the euro, Canadian and Australian dollars against the greenback. The firm is keeping open long recommendations for the yuan through unhedged Chinese government bonds.”

RMB Headed Higher

I completely agree with the Goldman view of owning the yuan unhedged through Chinese government bonds. As I’ve written extensively about on Macro ESG, perhaps most notably in China Builds Investment Alliances with Oil Suppliers via Rising RMB + Equities as US Squabbles - China is keen to have partners invest in its currency and securities markets.

US Dollar Peaked When Trump Won in 2016

The US dollar peaked when Trump won the election and went straight down after that, most likely from a mix of a running triple deficits:

• A trade deficit which just kept getting bigger with China.

• A budget deficit which kept getting bigger.

• And what I am calling an interest rate deficit - he pushed the Fed hard to lower rates, even humiliating the Fed Chair publicly to lower rates which it promptly did -such that the US now has negative real rates for the first time in its history. This interest rate deficit is significant when one considers that the US has simply been in this position before and needs to roll its debt.

• Lastly, the dollar went up under Democrats Obama and Clinton and the dollar declined under both Republican Bushes (father and son). The dollar did strengthen under Republican Reagan before it the Plaza Accords led to a large-scale US dollar devaluation by the G7.

Republicans Are Starting to Break With Trump

As I wrote on August 26th in Dollar Hinges on Election Post Stimulus Self Destruction, “Then, the expectation will be as he is going down, the Republicans will break with him and then the Democrats will be able to beat a veto or the President will go with them,” this is exactly what is coming to pass.

As reported by CNN, Trump is facing the biggest polling disaster since 1936 with the greatest lead by any candidate this close to the election - Republicans are already starting to distance themselves from him in a bid to keep their seats.

Newsweek reports that Biden is clearly leading in all of the swing states except Pennsylvania.

Emerging Market Currencies are on Parity with Advance Economies to Set the Value of the Dollar

As I wrote on August 26, Emerging Market Currencies Are Now Going to Lead the Dollar?,

• “Advanced economies typically led major changes in the US dollar versus emerging economies, when compared from the same starting point of freely trading fiat currencies in 1971.

• For the first time since the dollar went off of the gold standard, advanced economies are losing their power to lead the value of the USD.

• Now the future of the dollar is equally tied to emerging  and advanced nations, signifying the end of G7 power and the rise of G20 power.

• As the emerging economies have been trading with the advanced economies between 2015 to present, it is clear that the EM currencies are moving into parity with the advanced economies.

• The G7 is not ruling the world anymore - it’s the G20.  A very complicated multi-polar world order.”

Excessive Prevalence of Stale Risk-On Risk-Off Thinking

Goldman Sachs is a tremendous firm, but I believe in this instance they are getting stuck in stale thinking as far as the dollar goes - it’s not just as simple as risk-on and risk-off any more.

The rise of the Biden Administration represents a complete reframing of the US political order and, by extension, the global political order - as I have been writing about for some months, particularly the relevance of Skowronek’s theory of transformational presidents.

We are in a far more complicated multi-polar world order. I believe that the US dollar will stay firm as the Biden Administration reaffirms America’s position in the world order and refreshes the post-War international order to contain China that Russia will be keen to join.

Irrational Vaccine Exuberance

As I wrote on May 28th, Stock Market Vaccine Bubble, there is simply far too much optimism and “FOMO” or “Fear of Missing Out” driving equity prices now based on the irrational belief that the discovery of a vaccine will lead to huge equity rally and subsequent index underperformance.

Even if a vaccine is identified by New Year’s Eve, the likelihood that a vaccine will be broadly available by mid-year in the US is modest, more like year-end 2021 - and the compounding problem is that the developing countries will be last in line for the vaccine leading to the possibility of severe economic and political damage in the least developed countries - which I don’t believe can have any positive outcomes - and present risks which I have yet to think through.

The entire vaccine outlook is far too positive.

Investment Implications

• The global currency market is getting short dollars against both emerging market and developed market currencies. Thus, the likelihood of a negative surprise is increasing.

• I do agree with the outlook for the RMB and RMB-denominated assets as China has the trade flows to support those financial flows - in fact, the distortion between the size of the former to the latter is quite significant - and itself represents the greatest risk to the China story longer-term.

• Namely, can an authoritarian state like China become facile to dynamic markets when dissent is illegal?