Trump’s surprisingly resounding election victory suggests a mix of de-regulation, higher trade tariffs, tax cuts, and a partial pivot back toward fossil fuel expansion.
A higher budget deficit and immigration reform are also likely, as the Republicans appear set to eke out a narrow win in the House of Representatives to give them a legislative clean sweep.
A more bullish or uncertain investment backdrop?
Trump's victory brings with it a number of tail risks that investors need to consider. There is the risk that Trump and the Republican Congress overstimulate an economy already fully employed. Conversely, Trump’s threatened trade sanctions, if they do come to pass largely as flagged, could result in a stagflationary chill for the US and global economy. As a result, we believe uncertainty around the medium-term macro backdrop has risen, despite the bullish spike in equity market sentiment.
We expect that the sharp rally in the US stock market and other “Trump Trades” may well run its course fairly quickly, as investors pause to wait for more substantive policy detail. Despite the likely clean sweep, this policy detail could take several months, and perhaps more than a year in some cases (e.g. tariffs). As a result, macro news-flow may re-assert itself as an influence in coming weeks and months.
How Did We Get Here?
President Trump won the White House with 51% of the popular vote. While this reinforces the notion that the US remains split down the middle, this is still an achievement for a party that has failed to win an outright majority since 2004. Trump looks to have prevailed in each of the seven battleground states. He not only won the Sun Belt swing states, also took over the “Blue Wall” or “Rust Belt” states of Pennsylvania, Michigan and Wisconsin. This mirrors his 2016 victory and vindicates his electoral strategy of appealing to the working class, with a focus on the cost of living and a promise to restore America’s industrial base.
The Wall Street versus Main Street disconnect
Inflation appears to have been an important driver of the vote against the Democratic party. This is despite the significant slowdown in the rate of inflation over the last two years. The cumulative rise in the general price level since 2021 is 21%, resulting in negative real wages, especially in states Joe Biden won in 2020. Clearly, swing state voters do not share Wall Street’s view that the US economy is in great shape.
It seems somewhat ironic that Trump’s signature policies on tariffs & immigration controls will put some moderate upward pressure on inflation, despite this being a hot button issue for voters ousting the Democrats and voting for Trump.
A Likely Clean Sweep - Opportunity or Risk?
As we discussed last week, the investment implications of a Trump Presidential victory heavily depend on control of both the Senate and the House. As expected, the Republican party won the Senate with at least 52 seats and possibly up to 55. This falls short of the required 60 seats for the smooth passage of legislation. Still, much can be achieved (particularly for “budget linked” legislation) with control of the Senate and the likely control of the lower house.
Votes for the House of Representatives are still being counted, but Republicans look to have a good chance of winning a narrow majority. Achieving a clean sweep would make policy implementation considerably easier.
With a clean sweep looking likely, Trump will be able to extend his 2017 personal income tax cuts, which expire at the end of 2025. While the personal income tax cuts are essentially just an extension of existing policy, some degree of additional fiscal easing is likely. The Republicans can use the budget reconciliation procedure to fulfill some of Trump’s other campaign promises to cut taxes on social security income, corporations, overtime pay, as well as taxes on tips.
Trump has promised to slash government spending to help pay for tax cuts, but this will likely prove difficult to achieve in practice. Tariffs will raise some revenue, but they will likely end up less dramatic than his headline promise.
Trump Trades due for a pause
As a result, investors should expect at least a moderately larger budget deficit from an already very large starting point. This explains some of the upward movement in bond yields recently. However, tax cuts, spending initiatives and tariff policy will take time to enact - particularly tariffs. Consequently, the recent bond yield move may be close to running its course. Macro data flows and Fed policy expectations may come back to the fore over the next few months, as the market waits for details on policy initiatives and timing.
However, Trump's policies appear to be at least moderately inflationary, given larger projected budget deficits, curbs on immigration and heightened protectionism. This will likely mean some risk premium is built into the yield curve, regardless of the macro news-flow in coming months. Trump's fiscal spending, higher interest rates and tariffs could also keep some upward pressure on the value of the US dollar, although once again this trade is likely to pause near-term. The stronger dollar will itself help to curb Trump’s inflationary pulse at the margin, though it is unlikely to completely negate it.
Think small
Trump's pro-growth, domestically-oriented policies and tax cuts will benefit small caps, assuming the negative effects of higher interest rates are not too dramatic. While US small caps have rallied sharply of late, they have lagged large caps in recent years and valuations appear reasonable. We continue to see US small caps as a playable beneficiary under a Trump presidency. More broadly, Trump’s pro-growth policies and deregulation will benefit the "S&P 493" over the magnificent seven.
Thoughts on Other Sectors
Trump's presidency will likely deregulate the financial industry, by watering down Dodd-Frank and preventing the most stringent requirements of Basel III from materializing. Trump's pro-growth policies and the steeper yield curve will favour banks. Banks will also benefit from a likely pickup in M&A activity.
Energy production is poised to grow under a GOP clean sweep, thanks to regulatory easing and policies that will support US energy independence. However, an increase in drilling will - all things being equal - lead to lower energy prices, so we would favour oil and
gas services companies over the oil and gas producers.
Information technology and tech companies are multinationals, so will suffer at the margin from increased protectionism and higher interest rates. Tough stock specifics will continue to be important.
Trump's tariffs may hurt retailers, because of their import exposures and inability to pass on cost increases to customers.
Fade the trade and wait for the details
Trump’s sweeping election victory is currently giving the US stock market and many related Trump Trades a significant sugar hit. However, we believe that in many cases there is much now priced in. The likely lag between rhetoric and policy reality suggests many of these trades will likely pause to take a breath in coming weeks, allowing fundamentals to reassert themselves - at least for a period. Medium-term, the decision as to whether there are further lags to the various Trump rotations will depend on the policy details, and whether tail risks around tariffs, inflation, the budget deficit, and bond yields end up being contained, or if they end up derailing the Trump policy agenda, and indeed the US economy and global economy over the next couple of years.
Written by
David Cassidy, Head of Investment Strategy
David is one of Australia’s leading investment strategists.
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