Trump 2.X
Monday, 11 November 2024 12:25
Divergent Opinions in External Articles - The opinions expressed in articles from external sources do not necessarily reflect the views of Renalco SA and are shared for informational purposes only.
This is it. Donald Trump just made “the biggest comeback in American history”. What surprises us at first hand is the extent to which polls underestimated the popular vote in favour of Donald Trump or, alternatively, overestimated the previous administration support. Kamala Harris’ failure in addressing concerns over the economy and immigration was probably the tipping point, which led us, some weeks ago, to position our multi-asset portfolio towards a Trump victory.
Another Trump mandate is full of uncertainties for globalization and geopolitics. But it is also full of opportunities for investors as Trump is bringing both Wall Street and the Silicon Valley into the White House. If history is any guide, a Trump victory suggests buying risk assets now on the pro-business stance of the new administration and have second thoughts later. During his first mandate, it took him almost one year to cut the corporate tax rate with a Republican Congress. And the S&P 500 rose 20% while waiting for it in 2017.
Trump’s first mandate is also a reminder that there is no reward without risk. As Trump moved forward with trade wars in 2018, US equities experienced severe pullbacks on several occasions. With the administrative apparel on trade tariffs now in place, Trump could move faster this time. On the macro front, conditions are also different. inflation was in the vicinity of 1.5% in late 2016 and public debt was slightly above 100% of GDP, versus 120% now. This should limit the extent of the fiscal stimulus this time. Also, the valuation of the S&P 500 was much lower, with the 12-months forward P/E ratio trading at 17x when he was elected in late 2016, versus 22x now.
The key unknown is inflation and budget deficits. Trump’s program is inflationary “on paper”: trade tariffs and fiscal stimulus are a non-sense with the economy close to full capacity and inflation just back to more reasonable levels. And in our view, Trump will be less inflationary than feared. He is a populist and should know by now that inflation is deeply unpopular. We assume higher trade tariffs will be phased in gradually, and on items with “limited to moderate” economic implications to contain the impact on inflation. This suggests that after the recent repricing in bond yields, there are opportunities in bond markets. But timing matters and we think that for now, bond vigilantes are right to be cautious. We reduced the bond duration of our portfolio last month, and we are not yet revising this stance.
What about trade wars? The US is the country with the least to lose in a global trade war, but the tail risk for the US in such a strategy is stagflation. Sure, that is better than the huge recession China would face, but the latter could well deploy a huge stimulus to support its economy. Our Asian partners at Macquarie estimate that Chinese GDP growth could suffer a 2pp negative impact in case of a 60% US tariff on Chinese imports. This is massive and probably underestimates the other hit from the collateral implications of the whole world forced into incremental tariffs to prevent a flood of Chinese products. That’s definitely not a rosy scenario for China obviously (and all exporting economies to the US and China), but US voters would find themselves paying a lot more for all their consumer goods. The US mid-term elections would be a total car crash for the Republican party. So, in summary, the most likely scenario is that some deals will be found which will allow Trump to bring some wins home and limit the damage.
So what to do? Well at this stage, we look at the positive elements that Trump might bring to the world and consider a further leg up in global equities with a US leadership. What are those positives? (1) The biggest economic and geopolitical power is not stuck in political division. That matters a great deal for the global economy and US consumer confidence.
(2) The latter factor combined with some risks of higher tariffs – even benign – could encourage American importers to buy products from their suppliers around the world, notably in China, ahead of higher trade tariffs. Said differently, a global restocking cycle could begin after a long destocking cycle. This would benefit the whole world very shortly.
(3) Could global geopolitics improve? The war in Ukraine might end soon and Israel’s war has been long by any historical precedents. Europe, with its high energy dependence, would typically over proportionally benefit from a temporary easing of geopolitical tensions. (4) One thing for sure with this new administration is that it will have a pro-business and deregulatory agenda. While this is obviously positive for US corporates, it is possible that it will bear an influence on European policymakers’ mindsets in order to avoid losing further competitiveness versus the US.
Overall, we are not changing our asset allocation which was already geared towards a Trump victory. With regards to European equity strategy, we further reweigh some cyclical sectors at the expense of some defensives sectors: (1) we play an improvement of the US consumer via the European Media sector. (2) We stay away from (or neutral) on key sectors vulnerable to trade tensions (Autos, Luxury notably). (3) We maintain our exposure to domestically exposed sectors, which could be more sheltered from new trade wars, notably bond proxy sectors (Telecommunications, Utilities, Real Estate). Admittedly, these sectors have recently suffered from the jump in bond yields, but we believe the move is already well advanced. In addition, the upside for European bond yields seems limited from here. (5) European policymakers need to focus their efforts on growing the European economy in a more domestic way, inspired by the US model, rather than being dependent on a global economy. The financial sector (Banks up to Neutral, Financial Services up to OW) should be key levers to achieve that goal.
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