Focus on Joe Biden’s stimulus plans as US bond yields rise

Joe Biden’s call for “trillions” of dollars of additional US fiscal stimulus is a key focus this week.

President-elect Joe BIden is expected to reveal some of his fiscal plans on Thursday. Picture: AFP

Joe Biden’s call for “trillions” of dollars of additional US fiscal stimulus is a key focus this week, with the president-elect due to reveal some of his fiscal plans on Thursday.

While risk assets reacted euphorically to the improved chance of greater US fiscal stimulus after the Georgia run-off elections last week, US bond yields may spark profit-taking if they rise too fast.

Wall Street hit fresh record highs on Friday after Mr Biden called for trillions of dollars in immediate additional fiscal support, including boosting COVID stimulus cheques to $US2000 ($2600) from the $US600 approved in December, after surging COVID cases saw US payrolls fall by 140,000 in December against a 50,000 rise expected by economists.

But the Australian dollar and sharemarket fell sharply alongside US futures on Monday as the US dollar index showed further signs of at least a temporary bottom near the February 2018 low.  The Bloomberg Dollar Spot Index, which tracks the performance of a basket of 10 leading global currencies against the US dollar, rose 0.5 per cent on Monday.

After rising 2.6 per cent to an almost 11-month high of 6757.87 points last week, Australia’s S&P/ASX 200 share index fell 0.9 per cent to a two-day low close of 6697.2.

The Aussie dollar fell 0.8 per cent to a four-day low of US76.93c after hitting a 33-month high of US78.20c last week. Australia’s 10-year bond yield shied off a ten-month high of 1.132 per cent.

It came after the US 10-year bond yield hit a 10-month high of 1.124 per cent on Friday.

In its biggest one-week rise in six-months, the global benchmark rose 20 basis points last week.

The US Treasury bond market was closed in Asia-Pacific trading due to a Japanese holiday.

“With focus shifting to new fiscal policies in the US, we think both US real yields and the US dollar are in a bottoming process, which leaves us neutral on the US dollar, says Morgan Stanley global head of macro strategy Matthew Hornbach. The US investment bank was previously bearish on the dollar.

Amid rising US fiscal stimulus odds and “crowded” US dollar sentiment, Morgan Stanley closed its previous recommendation to short the dollar versus the euro and the Canadian dollar.

Morgan Stanley remained neutral on the Australian dollar, albeit “with a more bearish skew”, noting that it’s been the best performing currency pair since the first quarter of 2020.

“We think levels above 0.75 may give the RBA a bit more discomfort and we see growing risks that the RBA will push back against Australian dollar strength more forcefully at its upcoming February meeting,” Mr Hornbach cautioned. “We think AUD/USD would be an attractive short if and when the time comes to start buying the US dollar.”

On the US sharemarket, Morgan Stanley chief US equity strategist Michael Wilson said he was “bullish on the longer-term story but don’t think there is much to play for in the short term given last year’s powerful rally. The S&P 500 had a total return of 18.3 per cent last year despite the sharpest recession in history. Rates and inflation are likely to be two of the key themes in 2021.

“We think rates are likely to correct higher and that the move will happen quickly, leaving little time to reposition,” Mr Wilson said. “Rates are a critical component of valuation.”

Using the S&P 500 Index as an example, an increase of 50 basis points in the 10-year US Treasury yield from current levels would lead to a 10 per cent decrease in the price to earnings multiple, all else being equal. For the Nasdaq 100 Index, such it would equate to a 13 per cent fall in the PE ratio.

“The win in Georgia may bring another round of stimulus checks,” Mr Wilson noted. “This money is likely to be spent quickly and could be more inflationary than people expect, especially as the economy fully reopens.”

Ahead of the US earnings season for the December quarter, which kicks off on Friday, Citi chief US equity strategist Tobias Levkovich said US earnings should beat low expectations for the December quarter after a paucity of profit warnings and a pick-up in US industrial activity.

The bottom-up consensus is calling for a near 9 per cent drop in S&P 500 earnings per share on a year on year basis, led by a 33 per cent plunge in industrials and a 97 per cent collapse in energy. Crude oil prices fell 25 per cent year on year and industrial production fell by about 5 per cent.

But while a negative-to-positive pre-announcement ratio below 1.0 implied that US corporates were comfortable with sell-side forecasts, the forward-looking trend would be crucial, he cautioned. “Given upward earnings guidance at historically lofty levels, the market may be ahead of itself,” he said.

The US corporate earnings outlook for 2021 and 2022 “shows meaningful promise” assuming the health crisis eventually recedes amid vaccinations, but Mr Levkovich cautions that the potential for US corporate tax hikes also grew with the Georgia Senate race outcomes.

He estimates that a shift from the current 21 per cent corporate tax rate to 25 per cent could clip 5 per cent from overall S&P 500 EPS projections.

“The consensus seems more focused on possible stimulus goosing GDP and boosting the bottom line without necessarily considering the likelihood of higher taxes,” he said.

The high sharemarket valuation gives “little room for error” with “record euphoric sentiment”. “Hence, we remain cautious about chasing the tape and prefer to buy on drawdowns, not to mention our rotation trade focus on value, small caps and cyclicals.”