WashingtonWise Investor: Episode 35
Transcript of the podcast:
MIKE TOWNSEND: Foreign policy issues often fade into the background around elections, as polling consistently shows that those issues don’t resonate as strongly with voters as domestic issues—so candidates tend to spend less time talking about them.
But when a new administration takes over, a lot of attention is paid to which foreign leaders get a call from the new president and when.
Since his inauguration, President Biden has talked to 12 world leaders, from his allies in countries like Canada, Mexico, the U.K., France, and Germany to his first call earlier this month with Chinese president Xi Jinping. He also spoke last week at a virtual G7 meeting. And top administration officials have already talked to leaders in 43 different countries around the globe as of last week.
It’s a good reminder that while it can often feel like all the news is happening here in the United States, there’s a lot going on around the world that is also having an impact on the markets.
Welcome to WashingtonWise Investor, an original podcast from Charles Schwab. I’m your host, Mike Townsend, and on this show, our goal is to cut through the noise and confusion of the nation’s capital and help investors figure out what’s really worth paying attention to.
This week, we’re going to take a spin around the globe with Schwab’s chief global investment strategist, Jeffrey Kleintop. We’ll look at how the Biden administration is approaching some of the key foreign policy issues and how those issues might affect your investing opportunities.
But first let’s take a look at a couple of the key stories making news right now.
I’ll begin with our first glimpse into how Washington is reacting to January’s social media-driven retail trading frenzy. By now, most investors know all about the volatility that hit a handful of stocks late last month. Driven by social media message boards, retail traders drove up the price of GameStop Corp. and other stocks to astronomical levels, only to see many of them come back down to earth just as quickly.
Now Washington is involved. Last week the House Financial Services Committee held a hearing to explore what happened, whether any laws were violated, and what—if anything—should be done. The result was a marathon virtual hearing that went on for nearly six hours and, like most hearings on Capitol Hill, was part political theater and part substance.
It was, at times, a surreal hearing, one that was plagued by technology glitches, mute-button snafus, and background noise that any of us who have spent time navigating virtual meetings and virtual classrooms are all too familiar with. And, in perhaps its most surreal moment, it featured a trader whose screen name is “Roaring Kitty” informing Members of Congress that he is not a cat.
But the hearing also dove pretty deeply into market mechanics and whether they are keeping up with an explosion of interest in trading. And that’s something all investors need to pay attention to.
Lawmakers asked 236 questions of a panel of witnesses that included the CEOs of Robinhood, the trading app; Citadel, which operates a market maker and a hedge fund; Melvin Capital, a hedge fund whose short positions in GameStop became a target for retail investors; Reddit, the social media platform whose users stoked the trading frenzy; and Keith Gill, the trader known as “Roaring Kitty” whose Reddit posts and YouTube videos championing his investments in GameStop have become legend. Issues included the role of short selling and hedge funds in the markets, whether there are conflicts of interest in the market plumbing, whether there was any market manipulation going on, and whether unsophisticated investors need more education and disclosure when it comes to riskier forms of trading, like options.
Committee chair Maxine Waters, a Democrat from California, said the committee would hold at least two more hearings to explore these issues. The Senate Banking Committee will also hold a hearing of its own early next month. So what are the big takeaways for investors? Here are my four:
First, while Congress may hold a bunch more hearings, it’s extremely unlikely that any actual legislation will emerge from this saga. Congress isn’t going to get in the weeds of market regulation—that’s the job of the Securities and Exchange Commission. At the end of the day, all of these issues will be handed off to the SEC to determine whether new regulation is needed.
Second, that means that next week’s confirmation hearing for President Biden’s nominee to be the next SEC chair, Gary Gensler, is going to draw a lot more scrutiny than it ordinarily would. The Senate Banking Committee will hear testimony from Gensler on March 2, and he can expect to receive a barrage of questions about what regulations he intends to propose and how quickly he intends to move them. Expect Gensler to dodge all those questions, to say that the SEC will do a careful study of the market volatility and the issues it raises, and that he’ll take all of these issues under consideration as he settles into his new job. There’s absolutely no reason for him to commit to anything before he’s even confirmed for the job, but that’s not likely to stop senators from hounding him about it.
Third, the SEC regulatory process is a very long one—and that means that nothing is going to happen in response to the GameStop saga anytime soon. Treasury Secretary Janet Yellen has already directed the SEC to prepare a report on what happened, and that review is underway even before Gensler takes over at the agency. But the report will likely take months, then there will be an opportunity to respond to the report, then the SEC would potentially propose new rules, which themselves are subject to a lengthy public comment period—this is a year-long process, if not more. So don’t expect any changes that directly affect investors in the near term.
And fourth—keep an eye on one issue that appears to have received a shot of momentum as a result of last month’s volatility: That’s a financial transaction tax. Levying a small tax on all stock and bond trades is an idea that has been floating around Washington for more than a decade without ever really getting much energy behind it. But some lawmakers think that a financial transaction tax could be effective in curbing speculative trading. And, oh, by the way, it also happens to raise a lot of revenue that could be used to offset the cost of other spending priorities. Last week, House Financial Services Committee Chair Waters expressed interest in looking into the idea further. And earlier this week, the White House signaled its interest, with CNN reporting that the administration supports “studying the merits of a financial transaction tax … in the wake of the GameStop trading frenzy.”
A financial transaction tax would be a huge change for investors and the markets. It’s very controversial, and it does not yet enjoy widespread support among Democrats on Capitol Hill. But there’s more interest in the idea than there has been in years—and that means it’s something that I’ll be watching closely in the months ahead.
The other major story I am following right now is the meandering path of the economic stimulus legislation, which is picking up speed and appears on track to cross a major hurdle before the end of this week. The $1.9 trillion package is moving toward a vote in the House of Representatives. The bill includes another round of $1,400 stimulus checks, as well as money for state and local governments, for schools and universities, for vaccine distribution and testing, and for numerous other programs. It would also expand the enhanced unemployment benefits from $300 per week to $400 per week, and, crucially, extend that program from mid-March through the end of August. Those unemployment benefits are set to expire on March 14, and Democrats are racing the clock to get the bill approved and signed into law before that date so that those benefits do not lapse.
Once the House vote takes place, likely late this week or this weekend, the bill moves on to the Senate, where things could be a little trickier. With the Senate tied at 50 Democrats and 50 Republicans, Democrats cannot afford to lose the vote of even a single member on the stimulus bill in order to have Vice President Kamala Harris be the tie-breaking vote. There may have to be some changes to the bill, perhaps reducing its size a bit, in order to ensure there are enough votes for passage. And if changes are made to the bill in the Senate, then it would have to return for a final vote in the House of Representatives on the modified version before it can be signed by the president.
At the moment, everything seems on track to get the bill across the finish line, likely sometime the week of March 8. But nothing is a done deal in the 50-50 Senate until the final votes are in, so I’ll be keeping a close eye on the bill over the next two weeks. Markets seem to have already priced in this major boost of stimulus, so I don’t expect too much of a market reaction once it passes Congress. But there is downside risk to the markets if the bill were to fall apart and end up delayed.
On today’s Deeper Dive, I want to take a look at some of the key issues outside our borders that impact investors. And I’m thrilled that Schwab’s chief global investment strategist, Jeffrey Kleintop, is able to join me to give his perspective. Jeff, thanks so much for coming back on the podcast.
JEFF KLEINTOP: My pleasure. It’s always great to be with you, Mike.
MIKE: Well, Jeff, just like here in the United States, the prospects for economic rebound in other countries is really tied to vaccine distribution. So when it comes to getting the population vaccinated, who’s doing well and who’s doing not so well, and what are the implications for global economic recovery?
JEFF: Well, Mike, I think investors shouldn’t get too caught up in which country is “winning” on vaccinations. You know, for example, China is lagging way behind in the vaccine rollout, but it’s got the best performing stock market in the world this year. This slow rollout has been offset by really strict containment of cases using public health measures during outbreaks, and their effectiveness has created little urgency for people to get vaccinated.
So, instead, I think it’s important for investors to remember that sales for global companies that drive the major indexes are dependent upon all major countries seeing a vaccine-led recovery in the second half of this year. Having a company’s home country do better or worse in the near term may not have that much impact on total global revenue.
You know, taking a step back, the United Kingdom was the first country to begin vaccinations, and they remain out in front among major nations. Israel has reached about 50% of their population getting at least one shot, but that only took about 7 million doses. The U.K. is up over 17 million, which is about 25% of their population. The U.S. and other major nations are lagging the U.K. but following a similar path. Now, these numbers, of course, change every day, but the important thing is that, overall, they remain on a path towards about half of the population being vaccinated sometime this summer. And, Mike, I think that’s what is important.
MIKE: Well, Jeff, you talked about China, so let’s go deeper into China. There are obviously a variety of issues in the U.S.-China relationship that have turned pretty sour. What do you expect from the Biden administration in terms of their approach to China?
JEFF: Well, as you know, Mike, China isn’t the first thing on President Biden’s plate, so we may not know how the all-important trade relationship may evolve for a bit longer. But we might be able to get an early clue on the tone for U.S.-China relations any day now. And that’s because the Chinese companies delisted by the New York Stock Exchange on January 11 can now be reviewed for relisting.
Just to give you a little bit of the background, back at the end of December, the NYSE announced it would delist the U.S.-traded ADRs that track the underlying stock listings of China Mobile, China Telecom, and China Unicom to comply with a November executive order by the Trump administration. And this came after the Treasury said that these telecom subsidiaries were subject to the bans on their parent companies that were identified as Chinese “military companies.” But then just a few days later, on January 4, the NYSE reversed this decision after talking with regulators, in part because “delisting” wasn’t a term used in the original executive order or in its interpretation by the U.S. Treasury. But after pressure from the Trump administration, the exchange reversed their reversal and reinstated the delistings the following day. And then index providers started to drop the companies that were affected by Trump’s order.
But then, fast forward to Inauguration Day. These Chinese companies asked the NYSE for a review, hoping that under President Biden they would reverse yet again and relist them, or at least allow them to resume trading while a longer review is being undertaken. That review can now take place, and that means now we may get a signal on how Biden wishes to set the tone with China. He could rescind the executive order at any time. Alternatively, the Treasury, under new leadership of Secretary Janet Yellen, could reinterpret the directive, or the NYSE themselves could relist on a signal that the White House wouldn’t protest it. Any of that would be viewed positively by the markets as on olive branch. Alternatively, more Chinese companies may be announced as subject to delisting, which would be seen the opposite way.
So, Mike, in the coming days and weeks, I’m going to be watching the issue pretty closely.
MIKE: But, Jeff, you talked about the U.S.-China trade relationship a moment ago. Is there anything the U.S. is planning to do this year to address China’s failures to live up to the phase-one deal?
JEFF: It failed big time. China’s imports of U.S. goods subject to that agreement were only around 60% of the agreed-upon total for 2020. And, of course, U.S. tariffs on billions of dollars of traded goods remain in place. I think the most likely outcome is that phase one gets phased out without a lot of fanfare. It didn’t work, and it doesn’t address the objectives of the Biden Administration. But any reset to the U.S.-China trade relationship may only come gradually. A multi-lateral agreement that emphasizes the Biden administration’s focus on labor and environmental standards above manufacturing jobs and the trade balance that were the priorities of the Trump administration—well, all that could take some time.
Now, that said, the World Trade Organization just got a new leader in February, marking a fresh start to an organization with a renewed focus on China. So we could see some announcements of intentions by the U.S. and Europe in the coming days or weeks on the priorities they wish the WTO to pursue this year, probably with China at the top of the list. Similar to the delisting issue, this could signal the markets about what might lie ahead.
But still, any trade developments are unlikely to pose a significant threat to China’s strong 2021 economic and earnings growth outlook. While the U.S. and the European Union may want to push for changes to WTO rules for developing countries, it’s important to remember that because WTO reform has to be sanctioned through member consensus, and China has veto power, any sweeping changes that would derail China’s growth are pretty unlikely.
MIKE: Speaking of China’s growth, Jeff, the International Monetary Fund just issued a forecast for huge economic growth in China. Too optimistic or just right?
JEFF: Well, it might actually be too low. You know, growth could exceed the IMF forecast, which came in at 8.1% for this year. You know, China’s consumers and businesses are seeing solid income and earnings growth and showing signs of improving strength. And we can see this in a lot of ways. You know, the Lunar New Year, just here in February, didn’t see as much travel as usual due to the guidelines recommending people don’t travel, but that doesn’t mean they stayed home. China saw the biggest box office weekend ever at the start of the holiday, with over $700 million in revenue. And, overall, spending on retail and food was up from 2019, exceeding most expectations. I mean, China’s economic data is exceeding economist expectations, and earnings reports have featured companies talking about how surprisingly strong China’s demand has been.
MIKE: Well, Jeff, let’s change gears a bit and talk about Europe. There’s been a change in leadership in Italy that brings back a big name.
JEFF: Yeah, it’s a blast from the past. Italy’s new government is led by Mario Draghi, who, you may remember, was the head of the European Central Bank, Europe’s Fed, during much of the last decade. Now, this was a choice made by Italy’s president until new elections can be held post-pandemic. Now, the markets like this, since he has long been in favor of fiscal stimulus and European integration. It seems like whenever Italy really needs to get something done, they get rid of the politicians and appoint a technocratic leader. But its only temporary. Italy will go back to being Italy soon enough.
MIKE: Well, if there another election in a few months, is Draghi just a caretaker or do you think he’s in for the longer haul? Given the seemingly constant change, does Italy have much influence in the EU these days? I guess I’m wondering whether this really matters to the markets or if, as you said, it’s just Italy being Italy again.
JEFF: Yeah, I mean, Italy has an annual change to their government, it seems. Draghi is just a caretaker for now. There will likely be a new leader within a year. Italy does hold a lot of weight. It’s the most fiscally vulnerable of the major European nations, with a huge amount of debt. Now, the COVID stimulus and central bank support for Italy’s debt are critical to avoiding what began to happen back in 2011, after the great financial crisis began to fade, and fiscal austerity and central bank rate hikes started to tighten financial conditions and prompted the European debt crisis. Policymakers want to avoid a repeat of that, and it requires Italy to hold to the rules regarding spending and implementation of the stimulus. And I think Draghi can be counted on to do that, at least here in the near term.
MIKE: Well, speaking of elections in Europe, Germany has an important election in September. Do you expect a change in direction? Is there anything investors should be concerned about?
JEFF: Well, German Chancellor Angela Merkel has led Germany since 2005, and that’s a long time. And in the coming years, the European Union will discuss many key issues, including the completion of the banking union and the introduction of a capital markets union. Now, Germany’s position on both those issues will be crucial for the implementation of those plans. Merkel was supportive of Eurozone integration. I mean, she authorized a large bailout program for southern European in the aftermath of the great financial crisis. And, more recently, she supported a 750 billion euro COVID-19 relief fund for the European Union, which included the authorization for the European Commission to borrow from debt markets, and that was a first-of-its-kind fiscal integration in Europe.
Now, Armin Laschet is likely to become the new chancellor replacing Merkel, but the other leading candidate, Friedrich Merz, is more fiscally conservative and critical of more European integration. He is not expected to win, but if he starts to rise in the polls, it could be seen as a potential negative for European stock.
MIKE: And, Jeff, how big is the rooting interest for the United States in this outcome? Does President Biden have a relationship with either candidate? I would think, for example, being on the same page with Germany when it comes to issues like China and Russia would be pretty important to the new Biden Administration.
JEFF: Yeah. Well, a sharp rightward shift under Merz would leave less common ground between the U.S. and Europe, but Biden and Laschet would likely see eye-to-eye on climate change and most other issues, maybe with one exception. Laschet has a pretty warm relationship with Russia, and that could create some conflict should Biden push to hold Russia accountable for its actions.
MIKE: Well, Jeff, there’s, obviously, a lot going on with the U.K. as it sorts out its post-Brexit reality. One thing that struck me recently was that the Bank of England said to prepare for negative rates, although it did not say that it would actually use them. So what does this mean?
JEFF: The Bank of England officials agreed to prepare for the possible future use of negative rates in the event of downside risk to their forecast, but they noted there were some real technical difficulties were they to try and do so. Now, they did downgrade their Q1 forecast pretty sharply, but they maintained their projection for a strong vaccine-led rebound from the second quarter that returns GDP to its pre-COVID level in in the first quarter of 2022. And in that February press conference, Governor Bailey spent significantly more time discussing the upside risk that consumer spending rebounds even more sharply than expected. So I think they are saying, “We think the risk is to the upside, but if it is to the downside, we want to be ready with negative rates.”
Now, the market doesn’t expect a cut, evidenced by the pound actually rising versus the dollar this year, unlike the euro.
MIKE: There’s, obviously, been a lot of talk about negative rates over the past year or so, not just in the U.K., but here in the U.S. and elsewhere in the world. While it doesn’t seem likely at the moment, if the U.K. were to go negative rates, do you think there would be concern in the U.S. markets? What would be the impact on investors here in the U.S.?
JEFF: Yeah, I’ve seen investors lately are more focused on upside risk to inflation and rates. But I think it’s the circumstances prompting a shift to negative rates that would be negative for the markets, more so than the rates themselves. I mean, if the U.K. were to see its recovery failing despite the trade deal, leading on the vaccine rollout globally, and laying out plans for a full reopening of its economy in Q2, it may be part of a broader deterioration in global growth that’s prompting that cut in rates. And, of course, that would be bad news for everyone.
MIKE: Well, Jeff, let’s wrap up with the bigger picture for the global investor. What’s your outlook for 2021 in emerging markets? Where do you think the opportunities are?
JEFF: I like the outlook for emerging-market stocks in 2021. You know, this is the first recession in decades that didn’t prompt a crisis in EM stocks and economies thanks to their better fiscal and trade balances, and floating currencies.
You know, when I evaluate the prospects for emerging-market stocks, history shows us that there are four key drivers to watch: first, the pace of overall global economic growth; two, local country economic growth, as well, mainly, China’s growth, since it makes up about 40% of the EM index; number three is commodity prices; and number four is the direction of the dollar. All of these are working in EMs favor this year … well, maybe with the sole exception of the near-term counter-trend dollar move, but we think it’s headed lower throughout the rest of the year. Of course, valuations are attractive on a relative basis, and earnings growth is expected to be north of 35% this year for EM companies.
Now, emerging markets have seen strong performance of about 7½% this year through February 23. That tripled the return of the S&P 500®, and they look to be on track for a pretty strong year.
MIKE: So what’s the easiest way for investors to participate in this potential strong performance for emerging markets?
JEFF: You know, given the breadth of emerging-market stock market performance, a broad emerging-market ETF or mutual fund can be a great way to get exposure. You know, there are times when we want to be very selective, but this isn’t one of those times, given the start of a new broad global economic cycle. And the good news is that it has never been easier or less expensive to introduce emerging-market stocks into your portfolio.
MIKE: Well, Jeff, that’s great perspective as always. Thanks so much for taking some time to talk to me today.
JEFF: Always a pleasure, Mike.
MIKE: That’s Jeff Kleintop, Schwab’s chief global investment strategist. He’s a must-follow on Twitter. You can find him @JeffreyKleintop.
On my Why It Matters section, I look at a story you may have missed and tell you why I think it is important. This week, I want to address the increasing chatter in Washington about the possibility that the IRS may delay the April 15 tax deadline.
Last week, eight Democrats from the House Ways & Means Committee wrote a letter to IRS Commissioner Charles Rettig requesting a delay. They pointed out that last year, as the pandemic took hold, the IRS moved quickly to delay the 2020 Tax Day by three months, from April 15 to July 15.
They noted that this year the IRS has already delayed the start of tax season by two weeks, meaning that there is even less time than usual for taxpayers to get their returns in. And, of course, the ongoing pandemic is having a huge impact on the IRS in multiple ways, with the majority of its employees still working remotely. That’s led to a staggering backlog in mail and slowed processing time. It’s impacting the ability of taxpayers to get tax-prep assistance because many of the usual help centers remain closed. The National Taxpayer Advocate reported earlier this month that only one of every 11 calls to the IRS’s taxpayer hotline was even being answered. And, on top of all that, the agency is also still processing stimulus checks from both last spring and the more recent December round of checks. And, of course, another round of stimulus checks is expected to be approved next month.
So why does all this matter? Well, the IRS is overwhelmed in lots of different ways. Taxpayers are overwhelmed. Delaying the April 15 deadline seems like it could release some of that pressure.
Earlier this week, the IRS announced that it was delaying Tax Day for all residents and businesses in the state of Texas, as a result of the devastating winter storms there. Texas residents now have until June 15 to file their 2020 tax returns.
Now nothing has been announced yet on a more broad scale for the rest of the country, so if you don’t live in Texas you should still be getting ready to get your tax returns in by the April 15 deadline. But if a delay in that deadline is going to be announced, it’s probably going to be announced very soon. So keep your ears open over the next couple of weeks.
Well that’s all for this week’s episode of WashingtonWise Investor. I’ll be back in two weeks, so please take a moment now to subscribe so you don’t miss an episode. And if you like what you’ve heard, leave us a rating or a review on Apple Podcasts or your favorite listening app—those ratings and reviews help new listeners discover the show.
For important disclosures, see the show notes or schwab.com/washingtonwise, where you can also find a transcript.
I’m Mike Townsend, and this has been WashingtonWise Investor. Wherever you are, stay safe, stay healthy, and keep investing wisely.
Global Issues May Loom Large for Investors
Jeff Kleintop, Schwab’s chief global strategist, joins the podcast to discuss trade relations, global vaccine distribution, and other key issues with implications for U.S. investors.
While it feels like domestic priorities have been in the spotlight for months, global concerns can’t be dismissed. Jeff Kleintop, Schwab’s chief global investment strategist, joins host Mike Townsend to discuss international activity with implications for U.S. markets. From U.S.-China relations to the outlook for President Biden’s relationship with allies across Europe to prospects for emerging markets in 2021, Jeff helps shine a light on where the potential opportunities are for investors.Mike also shares his thoughts on the progress and timing of the latest economic stimulus bill, Washington’s new focus on the recent retail trading frenzy led by GameStop, Janet Yellen’s comments on tax increases in the administration’s next big bill, and the growing chatter about a possible delay in the April 15 tax deadline.
WashingtonWise Investor is an original podcast from Charles Schwab.
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