- We believe they could be quite far-reaching. American politics has shifted sharply to the right, with greater emphasis on nationalist sentiment and dislike of immigration. At international level, we anticipate an upsurge in isolationism, which in economic terms will entail a more protectionist policy.
- We ought not, however, to overestimate the power of the president: Trump will have to deal with the checks and balances of the US system, which restrict the president’s freedom of manoeuvre. Congress and the judicial branch will try to smooth the sharper edges of his policy.
- The financial markets nevertheless face a period of turbulence. Uncertainty and risk aversion push bond yields and equity markets downwards.
- In the KBC Investment Strategy, we are defensively positioned with, above all, a hefty underweighting in shares. We regard this Trump correction as a buy opportunity to somewhat redress this hefty underweighting. The improved economy is making itself felt more significantly. We're buying an additional 3.5% of shares but still remain 5% underweighted.
Disunited States of America
America is waking up today to a new and unexpected president. Hillary Clinton, the Democratic candidate, was unable to translate the opinion-poll lead she had built up into an election victory. The FBI’s investigation of Clinton’s use of her e-mail server was probably the final straw, although the elections seem first and foremost to have been a vote against the establishment by disgruntled white Americans.
The election result marks the end of one of the most turbulent campaigns of all time, in which the level of debate hit one new low after another. The president-elect would be well advised to reach out to the substantial groups that voted against him, in order to restore political unity in the United States. If he cannot achieve this, the country probably faces difficult times. We will now look at the implications for both the US and for the rest of the world.
America: the world’s broken compass?
Policy depends largely on whether a Democratic or a Republican president is
elected. A vote for the Republicans traditionally means more power for the states and an emphasis on lower taxes and smaller government. The policies pursued by Trump, who was once a registered Democrat, deviate from this traditional Republican vision. Donald Trump’s to-do list includes:
- A substantial stimulation programme to ‘make America great again’;
- Lower taxes, especially for the rich and the large corporations;
- A freeze on immigration – especially from Latin America and Muslim countries;
- The rejection of free-trade agreements , including NAFTA with Canada and Mexico;
- New trade barriers with heavy import tariffs and sanctions for China.
Trump’s domestic policy sounds positive for economic growth, but strikes us as unrealistic. The substantial increase in spending can only be financed through new debt, as Trump’s proposed tax cuts also mean reductions on the revenue side. This at a time when the US national debt is already fairly high. The question, therefore, is how willing Congress will be to go along with his plans.
Congress – the House of Representatives and the Senate – also faced partial elections yesterday. Both houses remained in Republican hands. All the same, the new president received little support during his campaign from the Republican establishment. It is open to question, therefore, whether Donald Trump will be able to complete his to-do list.
In addition to the political institutions, an important role is set aside for the central bank: the Federal Reserve. The Fed pursues an independent policy and can stimulate the economy or apply the brakes. The economic picture in the US looks rosy for the time being:
- Economic growth is accelerating;
- Unemployment has fallen back below its level immediately prior to the financial crisis in 2008;
- Inflation is approaching 2% – the central bank’s target.
Up to election day, there was a substantial likelihood that the Fed would raise the key rate in mid-December 2016 and several further times in 2017. If American business is hit by uncertainty, the central bank could put its planned rate hikes on ice in order to extend its stimulation policy.
Meanwhile, many of America’s trading partners are holding their breath. The protectionist policy on which Trump campaigned is likely to mean a slowdown in world trade. There are also a lot of question marks geopolitically: will Trump really distance himself from Europe and seek closer ties with Russia? And what about the Middle East and relations with China?
Financial markets: run for the hills?
The financial markets detest uncertainty. This would mark a clear break with the past, as previous elections have had only a limited market impact. The question in particular of what policy he will pursue, what surprises are in store, and what stance he will adopt towards the rest of the world provides substantial grounds for financial market uncertainty.
Let us run through the different asset classes:
- Trump’s election could have a two-fold effect on the US dollar. On the one hand, we expect the value of the American currency to weaken in response to the proposed investment programme and because the Fed will postpone its decision to raise its key rate. Conversely, risk aversion could trigger a flight from the dollar, which has traditionally been viewed as a safe haven. The dollar seems to be weakening in a first reaction, as investors are concerned about the consequences of Trump’s policies and the postponement of rate hikes by the Fed.
- Bond yields are falling today. Uncertainty benefits government bonds. It cannot be ruled out that US bond yields will slip back towards the lows seen at the beginning of 2016. Yields on government bonds might rise in response to the heightened uncertainty. We expect US interest rates to rise in the somewhat longer term, especially if Trump is able to realise part of his budget plans: higher government borrowing and inflation normally guarantee higher market rates.
- Of course, the equity markets are most vulnerable to risk aversion in the wake of the unexpected Trump victory. They seemed to have been assuming a Clinton win and so struggled in the past week, as Trump narrowed his deficit in the opinion polls. The markets reacted with a ‘Trump correction’. The consequences are likely to be less significant in the somewhat longer term. There is a substantial chance that Congress will temper Trump’s policies. A number of sectors might even benefit from the president-elect’s policies, including industry and domestically oriented US businesses.
KBC investment implications
- Within the KBC Investment Strategy, we had distinctly identified these elections as a risk factor. Despite the recovering economy over the past few months, we were therefore considerably defensively positioned, with, above all, a hefty underweighting in shares.
- We regard the fall in the value of the stock markets this morning as an opportunity to somewhat redress this hefty underweighting. The improved economy is making itself felt more significantly and we're buying an additional 3.5% of shares but still remain 5% underweighted. Uncertainly has increased.
- The investment positions remain unchanged:
- The share selection continues to be extremely defensive with themes like High Dividends, Buyback and Healthcare as the main focus.
- The bond strategy is holding tight to the current positioning of short terms to maturity and high interest rates, which we are seeking outside the euro area. We are also keeping our position in US government bonds. Even before the election, no great rise in interest rates was on the agenda and that remains unchanged with the new president-elect. Nor do we have any doubt as to the 'safe haven' nature of that investment!
- For the US dollar, the state of the economy and the central bank's policy are more important than President-elect Trump. The latest news confirms that the economy is on the right track and the gradual path of interest rate hikes is at the outside put back a little.
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