Election Week: Navigating Rate Cuts, Market Volatility, and the Election’s Impact.

This week could be a turning point for the U.S. economy, and whether you’re an investor, trader, or just watching from the sidelines, there’s a lot to unpack. With the U.S. presidential election, a key Fed meeting, and crucial economic data ahead, the market feels like it’s on a knife’s edge.

The anticipated rate cut from the Fed underscores the delicate balancing act it faces between managing economic slowdown and controlling inflation. Adding to the tension is the upcoming election, where each candidate presents unique fiscal policies that could significantly impact inflation, debt, and overall economic stability. For investors, this is the perfect time to reassess strategies, as the Fed’s decisions and election outcomes are poised to shape the economy’s trajectory.

Let’s break down the major themes driving the week ahead.

A High-Pressure Moment for the Fed in a Murky Economic Climate

After the recent 50-basis-point rate cut during the last FOMC, the Fed is once again facing a high-stakes decision: cut rates further or hold steady? Inflation remains persistent, and recent data reveals slowing job growth, with layoffs climbing—Dropbox, Visa, and other companies retrenching - the signs point to corporates bracing for a slowdown. But inflation’s lingering effects complicate the Fed’s balancing act: will it prioritise growth by cutting rates, or keep rates steady to combat inflation? Each path has significant implications for markets and investor sentiment.

Job Cuts, Corporate Earnings, and the Real Story Behind GDP Growth

Recent headlines are echoing a concerning trend: layoffs and cautious corporate earnings, especially in tech, hint at an economy cooling down. The latest jobs report underlined this, showing weaker-than-expected job growth and hinting that demand for labor is softening. With hiring slowing and cuts rising, companies seem increasingly focused on leaner operations, anticipating possible headwinds. This is more than just belt-tightening; it's a sign of mounting caution that could extend across sectors.

Adding to this complex picture, Chamath Palihapitiya recently highlighted that when one strips away government spending from GDP (accounting for 85% of GDP), growth is non-existent. This points to a ever-increasing reliance on government expenditure to sustain economic activity. GDP may seem robust at face value, but the reliance on federal spending raises red flags. Government spending, including quantitative easing (QE), is contributing to a misleading sense of economic resilience. The private sector’s recent pullback underscores concerns that real economic growth might be stalling without government support.

As Elon Musk argued in his recent call for $2 trillion in spending cuts, the U.S. risks inflating debt beyond manageable levels. Without fiscal restraint, there are real risks to both the dollar’s value and the nation's creditworthiness. Still, both leading presidential candidates have outlined spending-heavy agendas that could further stretch the deficit, with each approach - be it defence and corporate tax cuts, or social programs and higher taxes on the wealthy - carrying unique economic risks.

Trump, Kamala, and the Political Economy

In the current election, economic policy is the focal point. Both Trump and Kamala Harris propose ambitious fiscal plans, albeit in contrasting directions. Trump’s emphasis on defence and infrastructure, paired with a push for corporate tax reductions, could provide short-term market boosts but likely add to the national debt. Harris, on the other hand, focuses on social programs, with tax hikes on the wealthy aimed at offsetting these costs. Yet both approaches add considerable fiscal strain, likely to amplify inflation pressures.

Inflation, Treasury Yields, and the Growing Debt Crisis

Persistent inflation is limiting the Fed’s flexibility on interest rates. While the recent rate cut signals some concern for growth, the Fed remains constrained by inflation’s resilience. Long-term Treasury yields, particularly the 10-year yield hovering around 4.3%, are telling a story the Fed can’t ignore: market skepticism about rapid rate cuts. This yield spread between short-term and long-term rates highlights an underlying issue—the government’s massive debt burden.

Long-term yields are dictated by market forces, not the Fed, and their elevated levels signal caution. This discrepancy between Fed-controlled short rates and market-driven long rates underscores the debt’s hold over the economy. With government debt soaring, servicing these obligations becomes increasingly costly, creating additional pressures on economic growth and the dollar. As Palihapitiya points out, without decisive debt reduction, the risks of devaluation and credit instability will continue to grow.

What does the Fed do?

The latest jobs report paints a telling picture of the U.S. economy—job growth is slowing down, which has intensified speculation that the Federal Reserve will cut rates again by at least 25 basis points at the upcoming FOMC meeting this week. With October’s job gains landing at just 12,000—the lowest monthly increase in two years—the Fed is facing significant pressure to respond. This drop from September's, revised down, 223,000 new jobs is a clear signal that the labor market is softening faster than anticipated, and the outlook is getting murkier by the month.

The weakening labor market puts significant pressure on the Fed to cut rates in an effort to support growth. Yet, with inflation still in play, the Fed faces a tough choice: cut rates to address the cooling job market, or hold steady to avoid fuelling inflation further. The decision will be pivotal, setting the economic tone as we head into 2025.

What do we as investors do?

As we discussed in last weeks newsletter, safe haven assets like Bitcoin and Gold are gaining substantial traction. With inflation stubbornly high, potential rate cuts on the horizon, and widespread concern about dollar devaluation and government debt, both Bitcoin and gold have emerged as critical hedges against inflation and currency volatility.

Bitcoin's recent surge past $71,000 exemplifies this shift, as more investors view cryptocurrency not just as a speculative asset but as a long-term store of value, particularly amid fears of dollar instability. Institutional capital flowing into Bitcoin has surged, notably, BlackRock’s iShares Bitcoin Trust (NASDAQ: IBIT) saw a remarkable $1.1 billion in new inflows last week, marking its strongest performance since March 2024. This momentum has positioned it as the most successful ETF in the past four years in terms of assets under management.

Gold, a historically reliable safe haven, has likewise held steady, reaffirming its role as a buffer during economic stress. Analysts suggest both assets are increasingly serving as alternatives to government-backed currency investments, especially as U.S. Treasury yields climb, reflecting heightened market caution about U.S. debt sustainability.

Warren Buffett's famous mantra, "Never lose money," resonates strongly here. Gold's intrinsic value and Bitcoin's scarcity-driven proposition make both assets compelling choices for investors navigating economic uncertainties and impending fiscal decisions. With a Fed meeting and a U.S. election around the corner, the timing is significant for investors considering portfolio adjustments to best weather the storm.

Key Takeaways:

Today’s newsletter packs a lot of information to consider as we navigate a volatile week. Here are some focused takeaways to keep in mind:

• October’s almost flat job growth, with losses in sectors like manufacturing and retail, has added fuel to the expectation of a 25-basis-point rate cut from the Fed. As economic pressures grow, the call for rate relief is getting louder.

• Inflation is still running high even as job growth slows, leaving the Fed with few good options. The tricky balance between boosting growth and controlling inflation could push the Fed to keep rates higher for longer than many anticipated.

• High long-term Treasury yields are signalling real market worries about U.S. debt levels. The expectation that fiscal issues will persist shows that rate cuts alone probably won’t be enough to ease these pressures.

• With economic uncertainty high, assets like Bitcoin and gold are drawing interest as hedges against inflation and currency risks. Their recent strength underscores their growing appeal as investors seek stability in a turbulent market.

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