Developed Countries

Highlights Exogenous risks will remain more of a threat to grain prices than out-of-whack fundamentals, which are closer to balance than not, as the USDA’s World Agricultural Supply and Demand Estimates (WASDE) indicate. COVID-19-induced public-health risks leading to renewed lockdowns – particularly in the US, where infection rates are rampaging ahead of its trading partners’ – remain at the forefront of these exogenous risks (Chart of the Week). Headline-grabbing grain purchases notwithstanding, fraying Sino-US trade, diplomatic and military relations again threaten these markets, particularly soybeans. China promises to retaliate against actions taken by US President Donald Trump in response to a new security law Beijing foisted on Hong Kong at the end of June, which sharply curtails freedom and autonomy. Sino-US military tensions in the South China Sea remain elevated. Countering these risks, a weaker USD – in line with our House view – would boost demand for grains as EM income growth picks up. Still, global economic policy uncertainty will remain a formidable headwind to a weaker USD. Feature Grains generally are closer to balance than not globally, which suggests the next market-moving developments – outside weather – will be caused by news exogenous to fundamentals (Chart 2). Chart of the WeekCOVID-19 Infection Surge In US Could Lead To Renewed Lockdowns The four key markets tracked by the UN’s Agricultural Market Information System (AMIS) – corn, wheat, rice and soybeans – are in “a generally comfortable global supply situation. However, in many parts of the world, local markets brace for the looming impacts of COVID-19, amid uncertainties related to demand, logistics and even access to food.”1 Chart 2Grain Markets Close To Balanced The USDA sees corn markets tightening in the coming 2020-21 crop year beginning in September, with US production down 995mm bushels on the back of lower plantings and harvests.2 Output ex-US is expected to be largely unchanged, while Chinese corn demand will pick up in response to higher soybean feed usage. Stocks in China, Argentina, the EU, Canada, and Mexico, are expected to be lower leading to a net decline in global inventories. US soybean stocks are expected to increase, but this will be offset by declines in Brazil and China, reducing global bean inventories by some 1.3mm tons to 95.1mm, based on USDA estimates. The USDA’s soybean export commitments to China (i.e., outstanding sales plus accumulated exports) are 1.8mm tons higher than last year at 16.2mm tons, but still are well below historic levels (Chart 3). The US slack has been picked up by Brazilian exports, which have been aided by a weak BRL and record bean crops. A weaker USD and a resumption of Sino-US bean trade would reverse this. Wheat and rice stocks are expected to increase globally. Wheat inventories are expected to hit record highs globally, with China accounting for a little more than half of these stocks, and India accounting for 10%. Rice supplies are expected to increase more than demand globally, lifting ending stocks for the 2020-21 crop year to a record 186mm tons; China and India account for 63% and 21% of these inventories, respectively, in the USDA’s estimates. Chart 3Sino-US Trade Tensions Reduce Soybean Exports Chart 4Rising US COVID-19 Infections Are A Risk, But Won’t Derail Global Recovery Sources Of Market-Moving News The public-health fallout from the COVID-19 pandemic continues, particularly in the US, which is seeing a second wave of infections multiplying rapidly. With markets largely in line with fundamentals, the three most likely sources of market-moving “new news” affecting grain markets – outside weather – will come from public-health developments, particularly in the US; political developments affecting global trade, particularly the escalating Sino-US diplomatic tensions; and FX-market developments, which will continue to process these developments in real time. The public-health fallout from the COVID-19 pandemic continues, particularly in the US, which is seeing a second wave of infections multiplying rapidly (Chart 4). While we do not except a repeat of the massive lockdowns earlier this year, rising infection rates do place increasing strains on public-health resources, which could force officials to reimpose lockdowns locally. The global recovery from the pandemic remains uneven, with China’s recovery apparently ahead of most other states in terms of returning its economy to normal. China was first to be hit by the virus and first to largely recover, due to its more extensive lockdowns. Rising geopolitical tensions centered on China could throw global trade patterns into disarray again, just as the world is attempting to emerge from the COVID-19 pandemic. For grain markets, China remains an attractive destination for exporters, given the premium grains and soybeans trade at relative to other destinations (Chart 5). This should keep China’s imports of grains robust in the near future, particularly for corn (Chart 6). Chart 5China Grains Prices Are Attractive To Exporters While economics favor movement of grains – and other commodities – to China, rising geopolitical tensions centered on China could throw global trade patterns into disarray again, just as the world is attempting to emerge from the COVID-19 pandemic. Chart 6China Should Remain Well Bid For Corn A new security law foisted on Hong Kong by Beijing at the end of June limiting freedom and autonomy drew sharp responses from the US and EU. President Trump this week signed an order ending Hong Kong’s preferential status as a US trading partner in the wake of the new law, and threatened direct sanctions against Chinese officials involved in enforcing the law.3 The European Union issued a statement on July 1, which decried the passage of the law by the Standing Committee of China’s National People’s Congress, expressing “grave concerns about this law which was adopted without any meaningful prior consultation of Hong Kong’s Legislative Council and civil society.”4 In addition to this political turmoil, the US and China are engaged in a war of words over China’s territorial claims on the South China Sea, which is contested by states surrounding the sea and branded as illegal by the US.5 The US and China carried out simultaneous large-scale naval exercises earlier this month, raising concerns of an unintended military confrontation.6 Weaker USD Will Buoy Grain Markets We are aligned with our House view expecting a weakening of the USD, driven by the massive fiscal and monetary stimulus from the US; lower real rates in the US, and America’s apparent inability to successfully contain the COVID-19 pandemic to the degree other states (e.g., China) have (Chart 7). This implies the US is at a greater risk of a marked slowdown in its ongoing economic recovery. These factors will support flows to markets ex-US, pressuring the USD lower. For grain markets this will be bullish for demand. A weaker USD lifts EM GDP growth, which boosts industrial activity (Chart 8). Higher income boosts demand for protein, which drives demand for corn and soybeans used as animal feed, and grain consumption (wheat and rice).7 Chart 7USD Weakness Expected As Real Rates Fall, Deficits Rise Chart 8Weaker USD Boosts EM Income, Which Lifts Protein and Grain Demand   On the supply side, a higher (lower) US dollar decreases (raises) the local costs of production for ag exporting countries with a certain lag. A persistently high (low) dollar will incentivize (disincentivize) crop planting in these countries – allowing producers to increase local currency profits from USD-denominated ag exports. This pushes up (down) global supply at the margin. Hence, over relatively long periods, ag prices and the US dollar tend to trend in opposite directions. We cannot ignore the USD’s role as a safe-haven, which is particularly evident during periods of financial, economic and geopolitical stress. Longer term, disparities in monetary and fiscal policies, interest rates, and economic activity between the US and other DM economies will dominate the evolution of the dollar. In our simulations for the USD’s trajectory between now and the end of the year, a 5% depreciation of the USD would lift the CCI grains and oilseed index 13%, while a 5% strengthening of the dollar would push the index down by -8% by December 2020 (Chart 9).8 Should this weakening in the USD materialize, we can expect US grains’ stocks-to-use ratios to fall, which would reinforce price strength in grains (Chart 10). Chart 9USD Weakness Will Buoy Grains While the weaker-dollar scenarios are our favored evolution, we cannot ignore the USD’s role as a safe-haven, which is particularly evident during periods of financial, economic and geopolitical stress (Chart 11). Chart 10Weaker USD Would Lower STU Ratios, And Provide Support To Grain Prices Chart 11USD's Safe-Haven Status Could Keep Dollar Well Bid Bottom Line: Global grain markets are closer to balance than not, leaving exogenous risks – i.e., a COVID-19 second wave, renewed Sino-US trade and military tensions, and a stronger USD – as the key threats to grain prices. The impact of these exogenous risks will be filtered through to grain markets – and commodities generally – via FX markets. While we expect a weaker USD to prevail, in line with our House view, we cannot gainsay the dollar’s safe-haven role and its attraction during times of tension and crisis.   Robert P. Ryan Chief Commodity & Energy Strategist rryan@bcaresearch.com Hugo Bélanger Associate Editor Commodity & Energy Strategy HugoB@bcaresearch.com Fernando Crupi Research Associate Commodity & Energy Strategy FernandoC@bcaresearch.com     Commodities Round-Up Energy: Overweight As we go to press, Brent prices are steady at ~ $43/bbl as market participants await OPEC 2.0's Joint Ministerial Monitoring Committee decision on next month's output levels. The group is reportedly set to ease production curtailment to 7.7mm b/d starting next month from 9.7mm b/d in July. This would add to the growing concerns about the impact on oil demand of mounting COVID-19 cases in the US and in EM economies. Still, Saudi Arabia’s Energy Minister reiterated the effective cuts would be deeper as countries that overproduced in May/Jun will have to compensate with extra cuts over the coming months. Our global oil balances point to a supply deficit in 2H20. Thus, prices will recover if a correction were to occur. Base Metals: Neutral Copper prices surged by 5% since last week and have now completely recovered from the damaging COVID-19 shock – up 4% ytd. Fears of strike over wages at Antofagasta’s Zaldivar mine in Chile – following unionized workers rejection of a pay offer – and of virus-related mine disruptions in Latin America, combined with strong imports numbers out of China for the month of June supported the recent rally.9 In USD terms, Chinese imports growth recovered to 2.7% from -16.7% in May as stimulus programs start impacting the real economy (Chart 12). Precious Metals: Neutral Gold and silver prices are up 19% and 9% ytd. Silver rose to $19.5/oz as of Tuesday’s close, pushing the gold-to-silver ratio down to 93 after several weeks at ~ 100. Silver prices are supported by both safe-haven and industrial demand at the moment, which is pushing its equilibrium value higher, based on our silver price model (Chart 13). Our long Dec/20 silver futures trade is up 6.4% since inception on July 2, 2020. Ags/Softs:  Underweight On Tuesday the corn market shrugged off the biggest Chinese single-day purchase of U.S. corn and the USDA’s report of a 2% decline in corn crop conditions rated good to excellent. Despite this arguable bullish news, corn prices were still down on prospects of large carryovers both this season and the next marketing year, which begins in September. Going forward, the USDA cattle on feed inventory figure as well as ethanol demand will be key to assessing the evolution of corn carryovers. Feed and residual use of corn went down in the latest WASDE report, with year-to-date cattle on feed inventory lower than 2019, due to consumer stockpiling during the pandemic. With the beginning of grilling season well on its way re-stocking will be a challenging task. Chart 12Chinese Stimulus Will Lift Import Growth Chart 13Higher Equilibrium Value of Silver     Footnotes 1     Please see the UN’s AMIS Market Monitor for July 2020. 2     Please see World Agricultural Supply and Demand Estimates (WASDE) published by the USDA July 10, 2020. 3    Reuters reports that per the executive order signed by Trump this week, “U.S. property would be blocked of any person determined to be responsible for or complicit in ‘actions or policies that undermine democratic processes or institutions in Hong Kong.’”  In addition, the order requires US officials to “revoke license exceptions for exports to Hong Kong.”  Hong Kong passport holders no longer will be accorded special treatment under the order as well.  Please see China vows retaliation after Trump ends preferential status for Hong Kong published by reuters.com July 14, 2020. 4    Please see Declaration of the High Representative on behalf of the European Union on the adoption by China’s National People’s Congress of a National Security Legislation on Hong Kong. This was issued by the EU July 1, 2020. 5    Please see South China Sea dispute: China's pursuit of resources 'unlawful', says US published by bbc.com July 14, 2020.  See also China Pushes Back Against U.S. Statement on South China Sea Claims, ASEAN Stays Silent published by news.usni.org July 14, 2020. 6    Please see U.S. Carriers Send a Message to Beijing Over South China Sea published by foreignpolicy.com July 9, 2020. 7     In our modeling, we find that ag prices are generally less responsive to short-term changes in the US dollar compared to oil or base metals, but that they follow a common trend with the dollar over the long term. 8    These percent changes scale linearly in percentage terms, so a 10% weakening of the USD would lift the index 26%. 9    Please see Workers at Antofagasta's Zaldivar copper mine in Chile vote to strike: union published by reuters.com on July 10, 2020.   Investment Views and Themes Recommendations Strategic Recommendations Tactical Trades Trade Recommendation Performance In 2020 Q2 Commodity Prices and Plays Reference Table Trades Closed in 2020 Summary of Closed Trades

Table 1 Online political betting markets are still not fully pricing our sister BCA Geopolitical Strategy’s 55% odds for the "Blue Wave" scenario. Therefore, it pays to examine what will be the likely impact of a blue wave on the US stock market. Specifically, Biden is planning to increase the US corporate tax rate from 21% to 28%, and possibly even higher. In our most recent Special Report, we have conducted a similar exercise to the one we did in late-2017, when we calculated a one time boost to S&P 500 EPS due to Trump’s tax cut. This time, however, we reversed the calculation to compute by how much S&P 500 EPS are likely to fall should Biden raise the corporate tax rate. Table 1 reveals that the hardest hit GICS1 sectors are real estate, tech and health care, and the ones faring the best are consumer staples, industrials and energy. For more information, please refer to our most recent Special Report discussing Biden and his policies’ likely effects on the US stock market.  

Following our recent downgrade in the S&P banks index, we were also compelled to downgrade the S&P investment banks & brokerage (IBB) index to a benchmark allocation as it has a similar investment profile. The COVID-19 accelerated recession has not only mothballed potential industry M&A deals that were in the works, but also a number of previously announced deals have been canceled (second panel), which will weigh on the sector’s profit prospects. While “Robinhood” (retail investor) trading stories abound, margin debt remains moribund and continues to contract, despite the V-shaped recovery in all major US stock markets since the March 23 lows (third panel), spelling trouble for commission-related revenues. As a result we deem the collapse in the relative price-to-book ratio to represent a value trap rather than a value opportunity (bottom panel). Bottom Line: We are neutral the S&P IBB index. Please refer to the following Weekly Report for more details. The ticker symbols for the stocks in the index are: BLBG: S5INBK – GS, MS, SCHW, ETFC, RJF. ​​​​​​​

Neutral We have recently downgraded the S&P banks index to neutral as yellow flags are waving on all three key bank profit drivers, namely the price of credit, loan growth and credit quality. More specifically on credit quality, delinquency and charge-off rates are all but certain to spike in the coming months. The third panel highlights that historically all these credit quality gauges are lagging. However, the near vertical climb in the unemployment rate recently, and persistently high continuing unemployment benefit claims near 18mn signal that non-performing loans (NPLs) are slated to soar in the back half of 2020 (bottom panel). True, the recent $2tn+ fiscal package is acting as a Band-Aid solution by putting money in unemployed consumers’ pockets, but when the money runs out on July 31, the going will get tough especially if Congress does not pass a new fiscal package. Bottom Line: We are neutral the S&P banks index.  For more details on the other two key bank profit drivers, please refer to the following Weekly Report. The ticker symbols for the stocks in the index are: BLBG: S5BANKX – JPM, BAC, C, WFC, USB, TFC, PNC, FRC, FITB, MTB, KEY, SIVB, RF, CFG, HBAN, ZION, CMA, PBCT. ​​​​​​​