G'day Trump's USA
Trump and your investments
On Wednesday late morning our time, it became apparent that Trump - quite unexpectedly from many corners - would become the USA's 45th president. The Asian markets were the first to commence trading in this new world order.
Markets don’t tend to enjoy short term uncertainty. It was, needless to say, an emotional time for markets in Asia (including Australia). They commenced trading amidst the unexpected news of the Trump win - and the unknowns that a Trump presidency, both politically and economically, could bring. On Wednesday, the Australian market (All Ordinaries XAO) fell 1.9%. It was actually down 3.9% intraday before a partial recovery. Also on Wednesday, Japan's Nikkei index fell 5.4%, and Hong Kong's Hang Seng index fell 2.2%.
Time to consider implications
After the initial shock settled, commentary started to come out about the possible implications, and economic effects, a Trump presidency could have.
Some key features worth highlighting are:
- Trump's key policies show the significant influence of House Speaker Paul Ryan. Whilst the media has not chosen to focus much on real policies, there are some real policies on offer.
- Trump's economic plan will see US corporate tax rate drop from 35% to 15%. It should be noted that due to tax concessions etc, the average rate paid in the US is 18%. This will simplify the tax code significantly, and would prima facie add 20% to US earnings per share of listed companies. Cash piles held by multinationals are likely to return to the US (with the hope they will turn into spending or returned to shareholders - either way stimulatory).
- Trump would target only three personal tax brackets, and the top bracket moves from 39.6% to 33% (and again with the termination of tax concessions).
- Trump would offer US manufacturers the opportunity to fully expense rather than depreciate capital expenditure, in exchange for giving up interest deductibility
- Trump plans tax breaks for childcare, is offering partially paid maternity leave, increasing military spending and spending on school vouchers, increasing immigration enforcement and (significantly) lifting infrastructure spending by US$20 billion p.a.
The market came to the conclusion that the measures, assuming they can be enacted, are likely to be quite stimulatory. Thus, the US market actually traded positively when it opened after the Trump victory - to finish up 1.1% (S&P500) on their Wednesday. And up 4% for the week.
Australian market rollercoaster
The Australian market rebounded strongly on Thursday, after some time to absorb the developments from Wednesday, realisation that there could be some positives (stimulatory measures in particular) and a positive lead in from the US markets. As can be seen from the graph below, it recovered to be at a slightly higher level than before the pre-Trump developments.
All Ordinaries (XAO) Price Movement - Wed 9th and Thurs 10th Nov (Source: Iress)
Devil in the detail
As with most things market related, the rebound wasn't an even affair when looking under the surface. Resource related stocks recovered very strongly for instance. In relation to investments you own:
Cardno was one of your worst performing equity holdings in trading on Wednesday. It finished down 8.7% for the day. However, with infrastructure spending specifically identified by Trump as a focus area, with over half of Cardno's operations now being US based, and the company having an infrastructure expertise, on Thursday the market realised that a Trump presidency is likely to be positive for Cardno. Hence, its share price rebounded strongly - to be now higher than it was before the Trump machinations started. This situation really serves to show why watching day to day share prices can give you no real clue as to what is going on in the world!
Cardno (CDD) Share Price Movement - Wed 9th and Thurs 10th Nov (Source: Iress)
QBE Insurance was another equity holding that was down considerably in trading on Wednesday (-4.4%). A Trump presidency is likely to see higher bond rates and inflation (more on this below). Simply, QBE invests proceeds it receives from premiums in the short term money markets - and thus it will receive higher investment returns in a higher bond rate / inflation world. This would flow through to higher shareholder returns. Therefore, its share price also rebounded strongly in trading on Thursday, to also finish higher than before the Trump machinations began.
QBE Insurance (QBE) Share Price Movement - Wed 9th and Thurs 10th Nov (Source: Iress)
Subsequent to Trump's victory, much of the market's focus has been around equities (as discussed above). There are, however, potential significant implications for bond (or debt) markets. In fact, as depicted in the graph below, we are already seeing bond prices tumble (the price of a bond works in the opposite direction to its interest rate).
As mentioned above, a Trump presidency is likely to result in higher bond rates. This is because of two main reasons. Firstly, the stimulatory measures being planned (e.g. spending on infrastructure). Secondly, a Trump presidency is likely to enact changes to the composition and approach of the US Federal Reserve (the USA's central bank), with a backdrop of the current low rates being considered unjustifiable and higher interest rates considered desirable.
The ramifications of an unwinding of the bond market will be far reaching. And they will be global, as the higher interest rates flow through bond markets across the world. Some potential implications are financial companies needing to market-to-market their reported profit. The yield trade unwinding will be another implication, and it will negative for the property sector.
More broadly, after an extended period of low inflation, inflation may be back on the cards as something that investors, and many others, need to consider.
There remains many uncertainties and unknowns of a Trump presidency. There are potential negatives (e.g. trade and political stability), as well as positives such as the stimulatory measures discussed above. The net result of his plans identified above are very stimulating for the US economy (and would lift US federal debt levels on an absolute basis). As a result we would not be surprised, should he have the power to implement his planned reforms noting a Republican House and Congress), to see the US economic growth and investment potentially pick up quite strongly. (All this sets aside the personality issues: will the governing Trump be a more considered and civilised person than the campaigning Trump?)
Whilst the US market (and the Australian market as well) is trading slightly above fair value, it must be acknowledged that US earnings growth has been picking up (given the wash through now of the oil price declines). As a result, markets are not as exposed as many would believe.
We are well positioned to handle the likely coming volatility, given the defensive positioning and strong effective cash levels (28.5% if you include Origin Hybrids and CML sub debt) of the typical equity portfolio, we will use this time to see if we can find good things to invest in.