Black Falcon Market Morsel: Free-Range Investing in TrumpLandia

Free-Range Investing in TrumpLandia  

 For those loyal readers relying on Black Falcon Market Morsels as their primary news source, it’s our duty to inform you the Good Ol’ U.S. of A. had a little Presidential election a few weeks ago, and the Estimable Mr. Donald J. Trump came out victorious.

Now throughout the campaign, a.k.a ‘Our Long National Election Nightmare’, Mr. Trump threw out a number of ideas as to how he’d personally put the aforementioned U.S. of A. back to its rightful place at the top of the (no doubt gilded) pedestal.

 f you’ll indulge us, we’ll discuss a portion of his economic proposal (as best as can be ferreted out from the ideological minefield of campaign promises) and how financial markets have reacted thus far. We’ll also provide our view on the efficacy of those proposals if enacted as well as touch on the likelihood of the pies actually reaching the sky.

  Post-Election Market Moves:

  On Election Eve, conventional ‘wisdom’ held that financial markets preferred the stability of Mrs. Clinton’s program, and that a Trump victory would create chaos in the markets. Overnight, as the realization of the impending result was digested, stock markets across the globe did, in fact, swoon, demand-driven commodities sold off, and the safe havens of gold, US Treasuries and the US Dollar raged.

 Said wisdom held for roughly 6 hours. In a quick reversal, the narrative turned on its head. Overall, the stock market briskly rallied back to unchanged on speculation of impending stimulative effects of Mr. Trump’s infrastructure plan (that market narrative a bit of a head-scratcher -- as the central plank of Mrs. Clinton’s economic plan was also a major overhaul of US infrastructure). Equity sectors covering military, construction and banking led the way; sectors potentially imperiled by a trade war, particularly Silicon Valley, actually traded significantly lower.

Bonds have been under pressure since Election Day, on the view the Trump Plan would increase the debt/deficit as well as result in higher inflation. Yields on US 10 Year Notes have risen as much as 60 bps (0.60%) in the past three weeks. Largely as a result of the higher rates, the US$ has rallied roughly 4%, reaching levels not seen since 2003.

So, one may ask, what is driving this market reaction?

  The Trump Plan (Economics Department):

 The two major planks of the Trump economic plan, as far as we can tell, are a large-scale investment in US infrastructure and major tax cuts. In the interest of semi-brevity, we’ll refrain from a venture into the budgetary impact of the plan en toto , as evidently debt levels and deficits suddenly don’t matter. A topic for another day.

 The details that have come to light on the proposed insfrastructure plan are, broadly, $1 Trillion over 10 years. At one point the proposal was to finance the re-build entirely via tax credits, relying on private enterprise to appropriately decide which infrastructure, specifically, was worth upgrading/building. It would seem the plan is evolving into something of a private/public Infrastructure Bank to fund the projects, presumably given some direction from the Guv’Mint. Ah, policy details are so 2012…….

 The tax plan cuts rates across the board, personal and corporate. On the campaign trail there was chatter about closing loopholes -- seeing as how the entire system is ‘rigged’ -- but given we have in place essentially the same Congress that has vigorously enacted/defended said loopholes, color me skeptical on any major transformation of the tax code addressing those vested interests.

 Now, regular readers of Ye Olde Black Falcon -- both of you -- are well aware that, for years, we’ve been imploring our elected representatives to take advantage of (nearly) free money in the US Treasury market and stimulate the US economy via a major investment in our creaky, largely out-moded infrastructure. An enterprise confident of its prospects would leap at the chance to invest in itself with 10 year money costing less than 2%. It’s been infuriating to us (and, presumbaly the outgoing Administration) that the legislative branch has done essentially nothing on that end for the better part of six years.

 Also, we’re always up for a good reformin’ of the tax code -- in the interest of efficiently raising dough to pay for our national priorities. Personally, I’d target the bulk of the breaks to the middle/lower classes, as from our experience -- when stimulating the economy is the aim -- the velocity of money through the economy from that segment of the population is greater than when the beneficiaries are from the upper crust (presumably a reasonable percentage of this audience, as it happens).

Assessment of the Market Moves :

 On the premise of the plan (at least in large part) being enacted, the over-arching trends we’ve seen in the markets make sense: the fiscal stimulus re-flating the economy resulting in higher interest rates, a stronger dollar and support for the stock market.

And I do believe the fiscal jolt would be good for the economy. For market valuation purposes, the question is how soon these programs would materially gain traction and produce the intended result.

 For the stock market, in particular, to maintain upward momentum would require overcoming a few obstacles. In terms of the Trump Effect, the most optimistic take on the pace of fiscal policy enactment would suggest tangible impact at best 4-6 months after the inauguration.  So, an equity market sitting at all time highs will have to maintain a speculative froth for another 6-8 months before any stimulus hits the bottom line.

 Also confronting the stock market are historically elevated valuations, five consecutive quarters of slowing earnings growth, higher interest rates (although still historically low), a stronger dollar (competitively damaging global firms). Seems a bit of a challenge. That being said, it’s certainly possible the stock market could make another substantive run higher -- but it will require a lot of faith in our Messiah-elect and his ability to transform the sclerotic Establishment in our Nation’s Capital……… and pronto.

Potential Political Resistance to the TrumpLandia Euphoria:

 As it happens, the ‘Feel Good’ Election of 2016 did not cure your scribe of a serious case of political frustration/cynicism. And I can’t get this one particular bit of history out of my head:

 Harking back to January 2009, the US (and global) economy was teetering on a cliff. US GDP in the 4th Quarter of 2008 was -8.2%, and between October 2008-March 2009, the economy was shedding over 700,000 jobs per month (the unemployment rate in the same period rose from 6.5% to 8.7%). Over those two quarters, the S&P 500 sold off nearly 32%. There was a palpable sense of fear on both Wall Street and Main Street.

 Additionally, we had just elected a new President, one with historically high, bipartisan, approval ratings.

 In this environment, the leaders of the opposition party gathered and pledged to focus on ‘making him a one-term President’. A prominent talk radio host, if not the Thought Leader of the party, certainly near the front of the pack, unabashedly stated ‘I hope he fails’ (this brand of ‘patriotism’ still boggles my mind). Leveraging off the construct of our Constitution, and holding merely 40 Senate seats, this party was largely successful in obstructing and/or defeating much of the agenda over the ensuing years (there were a couple votes, such as the stimulus in February 2009, where the centrist Senators from the great state of Maine crossed the aisle and substantive legislation was enacted; also, after months of courting a handful of opposition Senators to negotiate the terms of a healthcare overhaul -- with no success -- the Democrats did ram through The Affordable Care Act. Again, a topic for another day).

 The subsequent electoral results for the opposition party were thus: winning back the House and Senate in 2010, and therafter increasing majorities in Congress and across state Governorships and legislatures (the one blip on the landscape was the incumbent President winning re-election in 2012). We Win!!!! (Country loses??).

 Now, one can debate causality of these electoral gains, but I have a sneaky suspicion the incoming opposition party has been taking notes. And the leaders of that party will contrast January 2009 with an economy growing at 3.2%, unemployment at 4.9%, the stock market at record highs, and a President-elect …….. well, let’s just say he’s not universally loved.

 The opposition party this time will have at least 48 Senate seats, and a tested, successful Obstruction Playbook to consult. Now, my cynicism on the current political environment is equally distributed across the two major parties. Therefore -- although I don’t agree with or advocate the strategy -- my take of human nature suggests we may be in for a repeat, command obstructionist performance out of the denizens of DC.

 So, as a market practitioner, I’d suggest ‘tapping the brakes’ on what may turn out to be a bit of unjustified market euphoria. I fear markets may currently price in something close to 90% of TrumpLandia plan implementation.

 That being said, with a watchful eye on Our Nation’s Capital, our view is thus: the trend can be your friend, and the near-term themes for the markets may be in place -- a still-growing US economy driving a stronger US$, a path to higher interest rates and a continuation of the 7 year bull market in US equities.

Craig Gile

Black Falcon Capital Management

November 30, 2016

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