A rise in risk appetite is driving markets

Outlook:

Today the calendar includes Canada's manufacturing PMI for Nov (51.1 in Oct). We also get the Markit manufacturing PMI for the US (53.9 in Oct). The ISM version is also due, expected at 52.2 in Nov from 51.9 in Oct. And the Commerce Dept reports Oct construction spending, probably up 0.5% after -0.4% in Sept.

In case you missed it, the Atlanta Fed yesterday reported its latest Q4 GDPNow estimate—a lousy 2.4% from 3.6% in the previous estimate, based on a combination of exports and "real inventory investment," whatever that is. Also, "The forecast of fourth-quarter real consumer spending growth fell from 3.0 percent to 2.2 percent after this morning's personal income and outlays release from the U.S. Bureau of Economic Analysis."

A word on the OPEC agreement—the WSJ reports that once the news was released, "... shares of more than 50 U.S. exploration-and-production companies climbed more than 10% following the agreement."

Enough said.

A rise in risk appetite is driving markets this morning but risk appetite is a fickle thing. For a few weeks we have had scare stories about the Italian referendum leading to asset collapse and an exit from the eurozone, not to mention the Austrian election bringing in a new era of near-Nazi sentiment. Now the WSJ reports that bottom-fishers are already out in force "buying battered stocks and bonds in a bet that worries about rising populist movements are overblown."

The WSJ asks the right question—how important are political developments in financial markets? Not much, when the EuroStoxx 50 is trading at 16 times earnings (vs. 20 in the S&P) and the MIB, 13 times earnings. A bargain is a bargain. And after a net outflow from European equity funds this year ($97 billion), inflows are starting to appear in the last two weeks. Besides, the eurozone is enjoying some green shorts of recovery—see the unemployment rate, now 9.8% and the lowest since July 2009. Perhaps the media and some politicians are overstating the dangers of populism, but maybe not. Bottom -fishers always show up early. We won't know until Monday morning, after the Italian referendum, widely expected to result in a No vote. Does Renzi resign or not? Initially he said he would if the referendum failed, but then a spokesman clawed it back. The Austrian election is too close to call, according to polls, and after Brexit and Trump, distrust of polls is high. Then there is the threat of LePen in France next spring.

In other words, in the realm of global politics, Renzi is the important central figure, but not really a populist issue. In fact, the Renzi reforms, including competition and labor market reforms as well as institutional reforms, are pro-populist in the sense that they are likely to lead to increased productivity and higher wages. The voters don't see it that way, of course, and resist change on principle. The political issues in other countries lean more to the populist problem—chiefly anti-immigration. The euro has to remain under pressure for these political considerations well into next year, if not all the way, all the time.

And besides, the ECB will be meeting next week and a key problem is whether it announces or defers announcement of extending QE past end-March. We guess the ECB will defer making an announcement. This keeps uncertainty high even if most observers see no way QE can be ended that early. Inflation remains under 1% and inflation nearing 2% is the ECB goal. QE may not be the best way to get to the goal, but it's what the ECB has got.

Another development is a trickle of non-negative perceptions of Brexit. Today the pound rose over 1.2600 (from 1.2299 on Nov 18), despite a bad PMI reading, on the story that the Brexit minister favors paying into the EU budget to get a softer deal. The EU has been saying all along that the UK is committed by treaty to continue paying, so it's not much of a concession, but the currency response is telling— traders want to buy it. Not only do they want to buy sterling against the dollar, they like it against the euro even more. This is as much about the euro's prospects as about the UK economy or Brexit. See the chart.

And finally, we still await the Fed rate hike on Dec 14. We like to think something expected this thoroughly and for this long a period must already be fully priced in and we should get a "sell on the news" effect, but that would be to disregard the willingness of markets to believe in the Trump fiction of big tax cuts, big deregulation and big spending on infrastructure. All of the Trump "plans" are nothiing resembling a real plan and thus fiction and wishful thinking, but never mind. The idea of revitalization has gripped the collective imagination and it will be more than 100 days into the Trump administration before disillusionment set in.

And of course it may not set in at all. Perhaps revitalization will materialize no matter what Trump actually does and says, driven by the private sector all on its own.

We therefore do not see a downward correction in the dollar as having legs, at least not against the euro and yen. The euro is particular is vulnerable from several directions, mostly political, and markets are not ready to abandon political considerations, whatever the minority of bottom-fishers think. The bottom fishers may well get a good gain on results being less dire than the doom-sayers have predicted, but that doesn't mean conditions are rosy. And sterling's fortunes may be rising on political considerations, too. We say it's premature to put on blinders to politics. It ain't over yet.

Politics: Tr umps cabinet will be full of Goldman alumni, not only the r epulsive Bannon but now the nasty hedgie Mnuchin, who made his fortune on the back of IndyMac foreclosed Californians, tens of thousands of them, as Treasury Secretary. We say these guys are so lacking in the spirit of public service that they will damage Goldman's reputation in the end. Trump says he will disengage entirely from his businesses but so far it's an empty promise. He still plans to let his progeny run the businesses, which does not overcome the conflict-of-interest issue. Already Bahrain is holding an annual shindig in the Trump hotel in Washington. Anyone who doesn't think this is currying favor is dumb.

As for the Trump promise to workers in the Indiana air conditioner plant to prevent the company from moving jobs to Mexico, this is a total lie. The Trump plan was to impose a 35% tariff on products coming back into the US. But instead, Indiana Gov Pence, the Vice President-elect, used $700 million of Indiana taxpayer money in a special slush fund to buy Carrier's promise to stay. Trump goes to Indiana today to trumpet victory of his idea that companies departing for lower-cost countries will be punished. The question is whether anyone is going to notice the bribe.