I personally feel that it might be difficult to find a very clear trend before the results of the mid-term elections come out in November. Of course, the specific timing may vary slightly due to the election process, but in general, that's the case.

Two weeks ago, after the Jacksonhole meeting, I mentioned in the previous article that I thought it was a hawkish meeting, and I could even say it was very hawkish; my basic assumption is that the Federal Reserve will raise interest rates in September. Over the past two weeks, I've sensed that, generally speaking, American investors are more convinced about rate hikes compared to domestic investors, and bond investors are more convinced of rate hikes than stock investors. This is not surprising. Even today, with only a few days left until the meeting, the probability of a rate hike may exceed 85%, and there are still friends who believe that the Federal Reserve will hold steady. I completely understand, even though I do not agree at all.

I think the simplest explanation is that the desirable interest rate level in the U.S. today is probably around 4.0-4.2%, and different institutions may have different estimates. So when the market prices in three rate hikes, it means that the policy interest rate will return to a level that neither stimulates nor restricts economic growth.

In other words, three rate hikes in the U.S. might not bring too much impact on the economy. This is the expectation gap that existed before, and after yesterday, I feel that this expectation gap is slowly being repaired.

The core of the following discussion might be whether the Federal Reserve will pause after two or three rate hikes of 25 basis points, or whether this can be seen as the market completely digesting bad news.

I do not think that way, not solely because of my view on the Federal Reserve, but because I believe that what matters more at this moment is the mid-term elections. This is another potential narrative shift.

On the other hand, for example in the case of gold, I feel that in the absence of a narrative for rate cuts, there won't be substantial capital inflows; there may be rebounds and fluctuations, but it is unlikely that there will be a major uptrend. I currently feel that this is a time of giving a lot while reaping very little, a bit of a chicken rib.

(I am too macro-oriented and unwilling to participate in copper squeeze, and I have no understanding of energy and chemicals, so even though I’m bullish on oil, I hesitate to go long on SC, so I’m actually already in vacation mode, preparing to discuss again after the mid-term election results are clear.)

This mid-term election might be a very critical election because it is indeed different; even during the Trump 1.0 era's mid-term elections in 2018, the Democrats were still able to find establishment cooperation within the cabinet, but this time I feel it is much more tense.

Even in ordinary mid-term elections, since it expresses more dissatisfaction, you often see some narrative shifts. For example, in 2022, the Democrats felt that their stocks were plummeting, inflation was soaring, and interest rates were rising, so they might be destined to lose the 2022 mid-term elections, yet the results turned out better than expected, which gave the Democrats a lot of confidence (there will be an Easter egg on this later), leading to increased fiscal measures in 2023-2024 and ultimately losing in 2024.

The executive power of the U.S. has been expanding, but a House of Representatives or Senate that is determined not to cooperate can still restrict many things, as we have already seen with the SAVE America Act.

For me, since 2022, the U.S. has exchanged strong fiscal measures for high EPS and high inflation, as well as kept interest rates below a reasonable level, which is the political foundation for the prosperity of American stocks and commodities. Politics is often a leading indicator for interest rates, so once this political consensus is broken, many fundamental assumptions will also change.

This mid-term election is a touchstone to determine how much dissatisfaction Americans really have under the past four years of policy; are they truly expecting change? You cannot tell this through polls and news; only with real votes—or some manipulated votes—you will know. This is the basis for determining future narratives.

If the Republican Party sweeps, I think both stocks and commodities can continue to be bought on dips, setting aside those so-called monetary restrictions and discipline. The demands of the people are the consensus of society; whether 2.5% inflation is considered high is not determined by the Federal Reserve but is decided by society's perception of whether it is high.

If the Democrats win any chamber, I will proceed cautiously; such a situation may be favorable for the dollar and U.S. treasuries, because it means Trump will face more constraints. However, in the past few years, the U.S. has sacrificed much of the backbone of its treasury and dollar in exchange for high EPS and high inflation, which is not as favorable for commodities and stocks; some business-friendly policies from the Republican period may be questioned or even expected to vanish in a few years.

Finally, I want to briefly add:

In U.S. history, there have been four instances of political polarization: 1800, 1860, 1897, and the current time. The first was when Jefferson united the two parties, but I do not expect that today. Dalio worries about the recurrence of the Civil War of 1860; after 1897, the Republican Party maintained an absolute advantage over the Democrats for 30 years.

How to achieve such a strong advantage in a polarized environment is due to changing social structures that caused demographic changes. After industrialization, the industrial population in the U.S. continued to grow; the Republican Party represents the interests of this newly added class. Thus, the polarization is like a 60-40 split—very polarized, but the 60 percent keeps winning.

This mid-term election is a mirror reflecting how the polarization in U.S. politics will evolve in the future; there may be clues in two months. In 2022, the Democrats felt that social progress was unstoppable, so they doubled down on their policies, but the outcome was contrary to their wishes; you can only say they misjudged it, but not that they made a wrong move. If the Republican Party sweeps, they will also double down on many of their policies.

All of this will soon yield results; I feel this is a very exciting observation window.

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