Markets Weekly Podcast - 2 Nov 2020

Welcome to your Markets Weekly podcast. Rising COVID-19 infections, predictions of a deadlier second wave and the return of national lockdowns sent shockwaves across the markets this week.

Henk Potts (HP): Hello it’s Monday the 2nd November and welcome to the Barclays Private Bank weekly podcast, the weekly recording that will guide you through the turmoil of the global economy and financial markets.

My name is Henk Potts, Market Strategist for Barclays Private Bank and each week I'll be joined by guests to discuss both risks and opportunities for investors. This recording will last around about 15 minutes and will be broken down into three component parts.

Firstly, I'll analyse the events that moved the markets and grabbed the headlines over the course of the past week. I’ll then move onto our focus section where we’ll spend a few minutes discussing a specific investment theme.

This week I'm pleased to say our special guest is Gerald Moser, he’s Chief Market Strategist with Barclays Private Bank. We will discuss how using hydrogen can help to reduce carbon emissions, revolutionise industries, and create opportunities for investors.

Finally, I'll conclude by previewing the major events and the data releases that are likely to shape the week ahead.

But let's start by reviewing markets last week. It was COVID rather than nervousness around the US election that was the primary driver of asset prices last week. Rising infections modelling, suggests a second wave could be more deadly than the first and the return of national lockdowns in Europe’s largest economies sent a shockwave through markets.

Investors spent much of the week analysing the medical data trying to assess the trajectory of the second wave. Epidemiologists have predicted that infections’ death rates will rise at a slower rate than during the first wave but will remain at elevated levels for longer; so less intense but longer in terms of duration.

So a reminder to investors, the virus is far from being tamed. Activity continues to remain vulnerable to future waves and the intensification of containment measures. The shape of the recovery can only be properly assessed once a vaccine has been developed, tested and globally distributed.

Though the impact is expected to be less severe on the economy than back in March and April as medical knowledge has improved and governments seek to better balance medical demands with the broader economic ramifications.

In terms of market reaction, no surprise, stocks tumbled around the world in the middle of the week. The Volatility Index (VIX), a measure of expected US volatility, climbed to its highest level since June. Money flowed into the safe haven US dollar.

In terms of equity market performance, the S&P 500 was down 5.6% - that's its biggest weekly decline since March 20^th. It is now 8.9% below its 52-week high which was on September 2^nd.

A similar picture playing out in Europe as well. STOXX 600 also fell 5.6%, its worst week since the middle of June. Crude prices also slumped, Brent trading below $37 a barrel this morning, this on concerns that lockdowns will once again reduce demand for energy and lead to supply glut.

Also signs that OPEC+ is reluctant to instigate a further round of production cuts and looking at the US election if the Democrats win that could accelerate the move away from fossil fuels to renewables.

In October WTI was down 11%, Brent traded down 10%. On the data front is the US economy that roared back into life in the third quarter with a record expansion of 33% annualised rate that grabbed the headlines, partly offsetting the second quarter plunge in output.

The surge in growth came as the economy reopened. Stimulus fuelled consumer spending - consumer spending was up 41%. There's also sizeable gains in terms of exports.

Business investment was up 20% as companies spent money on equipment. The rebuilding of inventory levels added 6.6 percentage points to the quarterly growth pace. There's also been a boom in the US housing market.

Residential investment jumped 59%, that's the fastest pace since 1983. However, we should note the US economy is still below its pre-pandemic peak by 3.5%. In terms of the outlook for the US economy but of course the immediate US growth profile still remains uncertain, it will depend upon authorities’ ability to manage the virus and push ahead with additional fiscal stimulus.

However, 2021 should be a year of recovery as companies rehire staff. We think unemployment in the United States will be down to 5.4% at the end of next year. Consumer spending rebounds, we have private consumption growth around 4% for next year, activity is reinforced by aggressive fiscal and monetary support.

In terms of those headline figures we think the US economy will grow somewhere around 2.5% in the fourth quarter, for 2021 we’ve pencilled in 3.9%.

The European central bank was also in focus last week. They kept rates on hold but offered a cautious outlook statement that promised further support will be applied at the December meeting when the new macroeconomic projections will be available.

The rapid deterioration in the health situation in Europe, the faltering recovery, the European central bank now are predicting a contraction in the fourth quarter along with subdued inflation outlook is adding to the pressure on the central bank to ramp up its efforts.

In terms of expectations the European Central Bank unusually pre committed to re-calibrate its instruments at the December meeting in an effort to avoid unwarranted tightening of financial conditions. We now expect the European central bank to increase its 1.35 trillion euro buying programme with a 6 month 500-billion-euro extension.

The governing council is also expected to cut the targeted long term refinancing operation borrowing rate further below the already generous -1% to further encourage lending to the private sector. No interest rate changes are seen through December 2022.

Now let's move on to our focus section. Gerald, good to have you with us today.

Gerald Moser (GM): Hi, good morning Henk.

HP: C0₂ emissions as we know need to fall somewhere between 8 and 10% every year over the course of the next decade for the warming in average global temperatures to be less than 1.5 degrees.

In the fight against global warming a new potential solution has certainly been grabbing the headlines over the course of the past few months and that's hydrogen. So let's start there Gerald why is hydrogen so interesting in the efforts to decarbonize the global economy?

GM: Yes, that is very good question Henk and I think you basically mentioned the key issue, which is that if we want to keep climate change effects from accelerating it's very important that we reduce our carbon emissions.

Now if you think about hydrogen as a source of energy, it just emits water when burned and pretty much every other source of energy would to some extent create carbon emissions. Hydrogen does not and I think that starting point is basically very important.

And if you think that currently 80% of the energy we use comes from fossil fuel, if we could shift some of it toward using hydrogen that would already help us in quite a large way to decarbonize the economy.

It’s something we started already trying to increase the electrification around the world, we see electric cars, but I think there are certain areas that are more difficult to electrify, and hydrogen could be part of the solution there.

HP: Thank you, so what is really required for the hydrogen market to grow from this point?

GM: So, developing hydrogen alongside renewable energy is a combination which could be beneficiary. At the moment, as I said before, when you use hydrogen it doesn't emit any carbon.

However, while hydrogen is widely available around the world it's not usually a standalone element, you have to extract it, and the process of extracting hydrogen requires energy and at the moment 99% of the hydrogen produced is made using fossil fuel.

So you might not emit carbon when using hydrogen but you emit carbon when producing hydrogen. This is the so-called grey hydrogen. But if you make hydrogen using energy from renewable energy, what is called green hydrogen, this generates zero emission both during the extraction and afterwards when you use hydrogen as a fuel.

The issue around that of course is that the hydrogen cost is always going to be higher than the cost of production of the energy necessary to extract it, because the energy you use to extract hydrogen is only one part of the cost in the hydrogen production process.

And for this reason, hydrogen is not the silver bullet but it can help and in order to do that government policies around incentives, taxation, energy pricing are very important alongside an infrastructure effort.

HP: Well let's go on to think a little bit about the practical implementation of what we've been talking about this morning and on which part of the economy could the effect of hydrogen be the most important?

GM: As I said before we've tried to electrify the economy and the example I gave was electric car. We all aware of them but you can't electrify everything and I think hydrogen is very helpful on two levels.

First for storage and second for the part of the economy that is hard to electrify. And what I mean here is usually the heavy industries such as steel, glass making, cement or mining - those are just examples there are other areas.

And I think if I go back to storage for a moment we're all very much aware of battery we use it for phone, also electric cars, etc. but that only works for small scale storage. If you want to have large scale storage, batteries are not efficient and they also lose energy over time. Hydrogen doesn't have that issue.

So if you think of negative power price which is when you produce more electricity that is needed and it's something that happens more and more with renewable.

If you have a lot of wind but not a lot of demand for electricity you overproduce, same thing about solar panels for example when you have a lot of sun around, and I think hydrogen can then be used as a storage so you use that renewable energy to produce hydrogen and that's a very effective solution around using hydrogen.

The other thing, as I said before, batteries work for light vehicles but when you think of heavy transport, whether you're talking about commercial aeroplanes, tankers, large ships or even trucks, batteries are not effective they don't have enough energy once again.

Hydrogen conveys a lot of energy, so this is another area where I think hydrogen is a very efficient solution to decarbonizing the economy.

HP: Thank you Gerald for highlighting the role that hydrogen can play in the fight against climate change, a topic I'm sure that will return to in the future.

In terms of the week ahead, well a massive week as we know for investors. This week we’ve got the US election, Federal Reserve and Bank of England meeting, and we’ll finish off the week with payrolls on Friday.

Big one of course is the US election. It’s too early to predict whether President Trump can win re-election, though there are some clear warning signs as the impact of COVID-19, the fragile economic backdrop, social unrest, along with a difficult electoral map suggests his path to the White House is extremely challenging.

In terms of the battleground states the President's particular success remember in 2016 was converting likes of Pennsylvania, Michigan and Wisconsin to the Republican column. He did that for the first time in 25 years. Even so those states were clinched by a very narrow margin, less than 1% of the vote in each case.

Without those three states the President would not have won in 2016. Looking at this year's electoral mass it seems likely he will need to win all three again to get re-elected. As things stand his Democratic opponent former Vice President Joe Biden, who we should remember is from Pennsylvania, has a healthy poll lead in all three of those, although in recent days those numbers have been tightening.

Florida is the other state to watch out for, it could be an early state to report where the rules on counting mailed in and absentee ballots means a result to say could come relatively early during the course of the process.

Florida is absolutely vital as you know for President Trump and could prove to be an early knockout blow for the President if he loses it. If we look at Oddschecker and this certainly not a Barclay’s prediction but aggregates bet the implied probability of a Biden victory to be 65.2% today.

Beyond the presidential race the next results to watch out for are in Congress and the possibility of a blue wave. Democrats are expected to win the House of Representatives; in fact, they are six to one on favourites. The battle for the Senate, the upper Chamber of Congress, is certainly much tighter. It has the power over the passage of legislation and can frustrate presidential policy implementation.

The Senate is currently under Republican control 53-47 majority. 35 Senate seats are being contested this time around, Republicans are defending 23 of those seats.

If Biden wins the presidency, the Democrats control both chambers of Congress, he would be able to push ahead with his policy agenda relatively unencumbered and that's likely to include a more federally driven approach, higher taxes, embrace a multilateral approach to foreign relations, aggressive infrastructure spending, and of course the transition to green energy.

In terms of risk to watch out for with a higher than normal number of absentee and mail ballots expected, there's a heightened possibility of ballot disputes delaying results and of course a range of legal challenges. A contested result as you know would be the worst result of all for financial markets.

And with that I would like to thank you once again for joining us. We hope that you found this podcast interesting, informative and it has given you guidance to how hydrogen can help with the fight against climate change.

We will of course be back next week with our latest instalment but for now may I wish you every success for the trading week ahead.