Financial markets went into what in the hoary old days of 2014 would have been called “risk off” mode, with the degree of upheaval in Washington leading investors to doubt the so-called Trump trade. The Dow was off 370 points and the NASDAQ declined 2.6%. Treasuries and gold rose. The dollar fell. European indexes were off, typically over 1%, and Asian markets opened down.
A correction is overdue. What is curious is why it took so long. Trump was never going to be terribly successful, even if he had managed at age 70 to undergo a Prince Hal turns into Henry V sort of metamorphosis, or that a Cabinet with enough presumed grownups in it provided some badly needed ballast. Even during the campaign, at a 50,000 foot level, we’d repeatedly said that Trump was likely to be a Jimmy Carter cubed (in terms of getting little accomplished) in Silvio Berlusconi clothing. Carter, despite having been a governor and therefore possessing experience in the mechanics of governing (running a government bureaucracy, working with a legislature to get bills passed), famously came to DC with a team of outsiders, thinking that his post-Watergate mandate and Democratic control of both houses would give him license to do things differently. It didn’t.
We’d also pointed out that the record of celebrities as government executives was also poor. Jessie Ventura floundered. Arnold Schwarznegger, who has vastly better interpersonal skills than Trump plus the added advantage of marrying into a political family, found his star power lasted for about six months. Ronald Reagan was never a precedent for Trump because Reagan had been interested and involved in politics before his gubernatorial run. He’d had a politically oriented radio show for many years where he’d written his own scripts, and more important, had headed a union before running for state office.
And that’s before you get to the not-trivial fact that almost immediately after the election, the CIA and other members of the military-surveillance complex went into open warfare against Trump. Hard to get much done when you are fighting for survival.
However, in the post-crisis era, market valuations have had even less to do with fundamentals than ever and have instead been heavily influenced by central bank machinations and momentum trading. The incentives for professional investors strongly favor exiting profitable positions too late (ie, being wrong like most of their colleagues) rather than taking profits too early and risk appearing to have left too much money on the table.
Here are some of the major elements of the Trump trade thesis and why they never made much sense:
Trump would build infrastructure. This was one of Trump’s most consistent campaign promises, and was one of the few Democrats would back. And if it were even halfway decently targeted, it would be highly stimulative too. So why has nothing gotten done?
Even if Trump had moved with speed on this front, the spending would have started at the very earliest in late 2017 and more likely mid 2018 or later, simply due to all the moving parts: developing plans, putting them out to bid, qualifying bids, negotiating detailed contracts.
However Trump is nowhere, and this is consistent with what we had predicted. Trump has yet to launch a real plan. And what he has proposed is all smoke and mirrors. His plan relies on using the equity tax credits market. Not only is that market small, but those deals are bespoke and take a long time to put together. So there was never going to be much spending regardless, and the timetable was going to be even slower than for direct spending due to the reliance on a particularly complex financing structure.
Trump would cut taxes. Admittedly, investors and companies can benefit from tax breaks without the economy getting all that much out of them. Mr. Market was and is hoping for corporate tax cuts (even though Trump has also promised personal tax cuts, my tax mavens say that what will happen there, even though it will be offensive by favoring top brackets, won’t amount to much in terms of actual relief).
Hoever, Trump is not likely to provide for net spending, which is what it would take to boost the economy. There are more than enough Republicans and Democrats budget hawks to bar anything beyond a trivial increase in the deficit. So any “tax spending” would need to be funded by spending cuts. Obamacare “reform” was one bucket the Republicans hoped to tap, but that would include touching the third rail of allowing insurers to discriminate based on pre-existing conditions. There are not enough Senators who are willing to fall on that sword.
As for corporate tax “reform,” meaning elimination of a lot of breaks in return for lowering of the rate structure, again don’t hold your breath. The Republicans may well implement a tax holiday to repatriate profits booked offshore, even though that benefits industries that for the most part back Democrats (tech and Big Pharma). Note that the idea that this would bring back actual cash is a complete canard; most of these companies keep that money in US banks. Apple, for instance, runs its money hoard as an internal hedge fund in Nevada. This is a tax reporting matter that does affect the ability to pay dividends in the US. And accordingly, the last time the US gave a foreign tax holiday the result was not more spending or investment. The money instead went out in dividends and executive bonuses.
As for rate reduction and corporate tax simplification, this will not be easy to achieve. Every deduction has a constituency that benefits from it and will fight to keep it.
And that’s before we get to the fact that investors chose to ignore that Trump never had anything approaching anything other than a napkin doodle version of a tax plan and has made no progress since he’s been in office.
Trump’s team does have a tiny bit more meat on the bones of their individual tax reform plans. No one believe the current version will get passed.
Trump would reform Obamacare. First, we are seeing how hard that is proving to be. Second, pray tell how would that help the sacrosanct markets? Obamacare was written by a health insurance lobbyist. Health insurance and Big Pharma stocks rose when it passed. Health insurers have spent a lot of money on
institutionalizing gaming the new systemimplementation. They are not happy about the idea of having to spend more money to another set of changes.
Trump would engage in a lot of deregulation. While that is a Trump aspiration, regulation is the more detailed articulation of legislation. Trump can’t undo laws by fiat.
And even with a Republican majority, the details of how to deregulate are often contested, since some business interests often benefit from regulation. Look at how his efforts to roll back regulation curbing methane emissions stalled. Similarly, Obamacare “reform” may not get done due to the Senate not being on board with what the House Freedom Caucus wants.
More important, regulation isn’t necessarily anti-innovation or anti-growth. Air pollution emission controls on automobiles led to a great deal of innovation. And the Big Three resisting tougher fuel efficiency standards contributed to their loss of global market share, since most of the rest of the world implemented more stringent standards. And deregulation won’t create opportunity where none is to be had. Many commmentators have pointed out that Trump ending the Federal moratorium on coal leases will not produce more coal industry jobs. Natural gas is displacing coal.
Trump is good for confidence. Bizarrely, that that has been true despite months of chaos compounded by Trump not even being close to having taken control over the bureaucracy. Mr. Market normally likes certainty when Trump’s modus operandi is being wildly unpredictable.
However, supposedly upbeat consumers haven’t opened their wallets much. Are confident “consumers” prioritizing saving because they see a low return environment as the new normal? If you punch in a modest return assumption into your retirement calculator, you need to sock away a ton more than with a higher assumption.
And here are some issues that Trump trade fans chose to ignore:
Trump had the most freedom to act on campaign promises that were not pro-business. Trump has considerable power to enforce immigration rules, which means deporting lots of undocumented immigrants. Mind you, Obama did that too but it was never very well covered. Businesses like undocumented workers not simply because they are cheap but also because they are far more tractable and will put up with more workplace abuses than Americans. And let us not forget that many card carrying liberals see no hypocrisy in using housekeepers, yardmen and nannies that aren’t legal (I suspect the posture is “don’t ask, don’t tell).
Trump also has considerable authority on trade, where he promised on the campaign trail to redo Nafta, and get tough on China, including declaring it to be a currency manipulator. On the one hand, traditional Republicans may have seen Trump’s fast retreat on these issues as proof that his populist talk was all hot air. On the other hand, it appears not to have occurred to them that that could also signify that pretty much everything else he said might also be an empty promise.
Trump’s peculiar preference for hiring people who are guaranteed to fight with each other is a terrible managerial model and particularly unsuited for overseeing a massive bureaucracy. He’s not just subject to gridlock with Congress due to infighting with and among Republicans; he’s setting out to create gridlock on his own team.
The Fed is determined to keep raising rates this year. The central bank has been eager since the 2014 “taper tantrum” to get out of its super low interest rate corner. Even though the Fed would never officially admit error, there are plenty of soft sightings that indicate many Fed officials recognize that the over-reliance on monetary policy to try to stimulate the economy has done more harm than good once the worst of the crisis was past. And having rates this low leave the central bank with nowhere to go if another crisis hits (say out of China). So there’s been a sense of urgency about raising rates at any sign that the economy can take it.
And it’s not hard to fathom that the current Fed would be more willing to take “dent the economy” risk on Trump’s watch than on that of a Democrat or a more traditional Republican.
Mind you, this isn’t a comprehensive list of problems with the Trump trade thesis. I’m sure readers can add more. But our market is so far from historical norms on so many levels, such as the afore-mentioned heavy intervention by central banks to the scale of algo-driven trading, that it’s even more perilous than usual to suggest when fundamental factors will check profitable churn.