Merlin Weekly Macro: Do you hear the drums of discontent?

Back in the grim days of the pandemic when China was in full draconian lockdown, the drums of civil discontent began softly beating, gradually getting louder. This in a repressive autocracy. General Secretary Xi Jinping’s political antennae began twitching, his nose tilted upwards sniffing the air. Trouble was afoot, the populace was restive. So he went walkabout, in among the tenement blocks and the forests of high-rise buildings, letting the people see him, to show sympathy, empathy and leadership in a time of common adversity. His very public display quelled the unrest, soothed the nerves and restored the faith. He might be an autocrat verging on a dictator, but he is no fool: he knows that ultimately, his power, even in a single party communist state, is derived from popular support. Lose that and the game is up.

The EU: tin-eared and tone deaf

Compare and contrast with the European Union. Even if the centrist parties are still in the majority, pan-EU parliamentary elections at the beginning of June saw a significant lurch to the right, and in the cases of Germany, France and Italy, to the far right. The drums of discontent were swelling in volume. But for the Brussels elite, dislocated and seemingly divorced from reality in their ivory towers, they remain aloof, tin-eared and tone deaf; in short, far from being acute and twitching madly their political antennae proved to be as sharp as footballs. How else to explain the re-allocation of the top positions in the Union almost entirely devoid of any reference to the change in the political landscape?

In what was described by Italy’s Georgia Meloni as a ‘stitch-up’, the candidates for the key institutional jobs were divvied up in a proverbial smoke-filled room by the leaders of France, Germany, Spain, Holland, Greece and Poland (Donald Tusk, now Poland’s prime minister, is also a former President of the European Council; he is entirely familiar with the drill). Ursula von der Leyen, back for a second term as President of the Commission; Antonio Costa (Portuguese socialist former prime minister) for President of the Council; Kaja Kallas, the strongly anti-Putin Estonian prime minister to take over from the hapless Josep Borrel as the ‘foreign minister’. All still must be ratified by the new parliament but given it is believed that the leaders of at least 21 of the 27 member states agree with every single proposal, the very strong likelihood is that under instructions from their capitals, MEPs’ ratification should be a formality. Meloni together with the EU’s perpetual sinner, Hungary’s Viktor Orban, made her displeasure very clear; as a sop, in attitude somewhere between throw-the-dog-a-bone and Marie Antoinnette’s ‘let them eat cake’, a modestly embarrassed von der Leyen offered up concessions on immigration to smooth ruffled feathers. Electorates tend to be less easily fobbed off than politicians.

So what? So a lot!

In these columns in June, before the EU elections, we said the EU polling booths were open but ‘so what?’. That was seen through the lens of the EU parliament being the least influential of four pillars of government, and casting a vote as an elector is so far removed from the political decision-making process and effecting outcomes as to be irrelevant.

In the event in France, ‘so what?’ became ‘so a lot’, when under direct assault from Marine Le Pen’s National Rally, President Macron immediately threw down the gauntlet to his domestic electorate in a snap parliamentary election designed to put the French nationalists back in their box; it was a risky strategy yet to reach its conclusion next weekend. But for the rest of the EU, ‘so what?’ remains entirely applicable. It appears to be business as usual: carry on as if nothing has happened which, to the electorate, sends off signals of contempt.

Arrogance? Aloofness? Anxiety? Stupidity? A combination of all the above? How best to categorise the Brussels attitude to the EU’s democratic deficit; the ‘so what’ conundrum? Of the key policy areas which most vex voters in the EU, all are centralised. Immigration: harmonisation and common standards of vetting, processing and hosting migrants and asylum seekers; wherever migrants land in the EU, all member states will have to share the burden of sanctuary. Climate change: while responsibility for compliance is delegated nationally, pan-EU emissions targets are determined centrally; whether for example German households where over 85% have gas-powered hot water and heating, or the disproportionately large Dutch dairy industry and its bovine methane emissions, or the diktats about internal combustion engine vehicles and their usage in urban areas in France and other countries, the popular pushback and divisiveness are powerful political factors across Europe. Ukraine is another source of tension: about whether to admit it to the EU (according to the European Commission’s Public Opinion Monitoring Unit 52% of Germans, 43% of French people, and 34% of Italians believe the EU should not accept Ukraine as a new member in the coming years) and whether its reconstruction will be a financial burden on EU member states (69% of Germans, 61% of French, and 52% of Italians believe the reconstruction of Ukraine will be an economic burden for the EU); how much military or humanitarian aid should be provided (47% of Germans and 62% of Italians think their governments should not be providing military support); who should have the responsibility for the ongoing refugee crisis etc. All of these are immensely difficult and complex issues but for whatever reason, Brussels seems determined to make life more difficult for itself by ploughing on regardless, insensitive to the prevailing mood.

In democratic societies, we elect governments to govern and leaders to lead. Governments are entitled to feel annoyed and frustrated when they are berated either for doing ‘the right thing’ (as in Ukraine, for example) or for implementing what was voted for (take Emmanuel Macron: he made it very clear in his original manifesto that dealing with diesel emissions was a key target for his new government; when he introduced legislation to tackle those emissions it sparked the Gilets Jaunes protest movement creating significant social unrest but the key leaders of the Gilets Jaunes were often found to be strong supporters of Macron and had voted for him!). A system based purely on Vox Pop would soon be no system at all, but chaos. However, canny politicians keep a close ear to the ground at least to judge the mood; they also have the knack of being able to carry their electorates with them, winning their confidence. Those who lose touch, or become arrogant or complacent, or are too insensitive or stupid to realise what is afoot are the ones who invite ridicule, restiveness and reaction, something that is only accentuated in today’s fast-paced, soundbite-driven, interconnected, multi-media world. The result tends to be polarised and populist politics. The simple tenet of politics remains enduring: you take the electorate for granted at your peril.

The US election: the Exculpated versus the Enfeebled

Last week’s US candidates’ head-to-head ‘debate’ (it was barely anything of the sort) was a low moment. Trump’s worst hooligan tendencies were on full display; Biden, a virtual empty vessel, simply wasn’t there. There is now a strong swell of senior Democrat opinion that Biden should be ditched as the Presidential nominee, so faltering were his mental faculties not being able to get his words out, let alone debate in any articulate way. The problem for the Democrats is that if on the evidence of his debilities in late June he is unfit to stand (almost literally) in November for another four-year term and needs to be stood down as a candidate now, by definition he is also demonstrably unfit for office today. Theirs is an unenviable calculation: whatever they do, either ditching Biden or keeping him, does it risk disaster or give deliverance?

The US system works back from polling day on November 5th (fixed, immovable). All the states are required to declare their agreed nominees to be entered on the ballot papers at all levels subject to election (president, senate, representative, governor); the last scheduled to make its announcement appears to be Indiana on September 10th. Most states will have made their choices by the end of August. The national Democratic Convention to endorse the party’s Presidential nominee and running mate is scheduled for August 19-22. If the Democrats decide to jettison Biden, they have barely six weeks to decide a credible candidate via an open caucus; it is very tight, almost too late.

Just when you thought this US election campaign could not get any weirder (Trump was due to be sentenced for his Stormy Daniels conviction on July 11ᵗʰ , the latest twist to which is the Supreme Court ruling this week that Trump has “broad immunity from criminal prosecution from his time in office as President”), it could be about to take another dramatic turn. Hold on to your hats.

Investment Impact

This electoral and political uncertainty in France and the US, and impending political change in the UK, are all contributing to rising bond yields as the barometer of sentiment (a bond’s yield is the annual return an investor should receive on a bond given its current price; when a bond’s yield rises its price also falls and vice versa). While investors are still determined that the medium-term trend for interest rates (and government bond yields) is downwards, what we see today reflected in rising yields is an expression of the ‘risk premium’: if the outlook is less certain, investors require a higher rate of return to reflect the perceived higher risk on their loans. Risk premia are ephemeral, difficult to put your finger on or quantify, but broadly as the perceived risk increases or declines, so too does the risk premium. Sometimes the ebb and flow of risk perceptions can lead to greater than usual volatility in prices. While many investors view volatility as risk, we view risk as the permanent loss of capital, something we always try our utmost to avoid. However, rising and falling prices present investment opportunities to the canny as well as risk to those whose tendency is to panic.

The Jupiter Merlin Portfolios are long-term investments; they are certainly not immune from market volatility, but they are expected to be less volatile over time, commensurate with the risk tolerance of each. With liquidity uppermost in our mind, we seek to invest in funds run by experienced managers with a blend of styles but who share our core philosophy of trying to capture good performance in buoyant markets while minimising as far as possible the risk of losses in more challenging conditions.