The health of the US economy has a profound global impact and it is clear that the new President is seeking to build on his key election themes of "Making America Great Again" and "America First". What might these promises actually mean in practice and how should investors position themselves for the months and years that lie ahead?
After what was clearly a hugely divisive election, there seems little point in raking over all the arguments which so comprehensively split the US electorate during the campaign. Instead it is time to deal with a President who communicates in new ways (especially on social media) and who is quite prepared to implement policy moves quickly via a rush of Executive Orders. It is an approach which is certainly less consensual than in the past and is indicative of a profound change to the overall political process. There will clearly be economic consequences too making it even more important for investors to have plans in place to adapt to the changes taking place at such a pace.
President Trump has set out a bold plan to pursue tax reform and to repeal the Affordable Care Act ("Obamacare"). By doing so he seeks to build up his fractious Republican base ahead of the crucial 2018 Congressional Elections where he will seek to cement his political legitimacy. If he delivers on his pledges, there is likely to be a strong boost to the existing strong global growth momentum and this should be the near-term focus for investors. In terms of capturing this growth, equities stand out at the moment in sharp contrast with the fixed income side of the market where investors are not receiving sufficient reward for taking on interest rate or credit risk. There is also scope to profit from investing in gold and following risk premia strategies as a useful means of hedging against medium-term policy uncertainty.
A Start-Stop approach to government?
The new President takes a brisk approach to the job and frequently makes a point of highlighting those core promises that formed the cornerstones of his campaign. This "Start" phase of his administration shows a President seemingly getting on with the repeal of Obamacare, outlining his tax reforms and starting the debate in the areas of trade and immigration reform. He wants to build on his mandate and America First emphasis and so broaden his support ahead of the 2018 Congressional Elections.
An initial burst of energy may well not carry on too far for the new administration. As Trump begins to confront the reality of translating his rhetoric into action on trade protectionism and immigration there is the chance that the presidency may enter a "Stop" phase. While this may pose risks for investors in the medium term, any pause taking place will be against a strengthening global backdrop and a successful "Start" phase heightening the prospects of an upside earnings surprise from equities.
The policies that make Trump tick
There was something of an expectation around an election victory effectively "taming" Donald Trump. Some seasoned political commentators and financial analysts argued that the contentious proposals set out in the campaign would quickly and quietly be watered down with a more moderate programme emerging from the Oval Office. However, this assessment does not fit the real context of the Trump election win where he failed to secure the popular vote compelling him to focus on rewarding his supporters by delivering on campaign promises. He also wishes to lay the groundwork for Republican success in the 2018 elections.
In policy terms, this means little likelihood of any shift away from much of the divisive campaign plans creating an expectation that the President really does "mean business". So how might this turn out in policy terms over the next few weeks and months? The first two weeks alone of the Trump administration provide a stark illustration of just how the President sticks to his campaign script. With an extensive use of Executive Orders he appears quite prepared to bypass US Congressional approval. He announced a freeze on new regulations and a plan to take steps to begin weakening those financial regulations enacted since 2008 including those designed to underpin a stronger banking system following the crash of 2008.
The President's burst of initial activity continued with the formal announcement of US withdrawal from the Trans Pacific partnership and the order to begin building a border wall between the US and Mexico. He also instructed US agencies to waive fees/grants exemptions from Obamacare regulations "to the maximum extent permitted by the law". Rapid additional policy followed with the blocking of admission of nationals from seven "countries of concern" for a 90 day period and a halting of permission for refugees to enter the US for four months. While the courts have challenged this tightening of immigration, the President's intent in this area seems to be clear.
Trump's stimulation steps for the US economy
Much of the excitement in US markets has revolved around the President's strong emphasis on boosting the success of the US economy. While some of the language he uses around free trade, protectionism and a US infrastructure programme is more about intention than clear policies he can quickly move on to address the specifics about tax reform (including actual cuts in personal and corporate taxation) and the repeal of Obamacare.
Yes, there is a lot of noise about trade in particular, and to a lesser extent immigration policy. However, in terms of practical measures and outcomes there is a definite emphasis on tax reform and the end of Obamacare as a way of laying the groundwork for the 2018 Republican campaigns for the US Congress.
Implications and outlook for US growth
There are already clear signs of acceleration in the US economy backed up by strong rebounds in both business and consumer confidence. While fourth quarter GDP disappointed at a lower than expected 1.9% due to a negative net export contribution, there was still a 2.5% improvement in domestic demand driven by sustained consumption, a lively housing market and a sharp pick-up in capex. All of this supports an upwards revision in the growth outlook should the range of key economic indicators continue to show signs of improvement.
However, there is a need to balance broad optimism with a measure of caution. As the slack in the US economy declines still further, there is an upside risk to inflation and wages driven by an increasing shortage of available workers across both specialized and non-specialized parts of the economy.
Can Trump really deliver on his 4% growth target?
After all the years of disappointment following the Global Financial Crisis how realistic is Trump's 4% US GDP growth target? With an emphasis on Ronald Reagan style supply side reforms through lower taxation and reduced regulation, the new President is committed to driving up US growth. An economy that is already on the move is likely to benefit still further from the effect of lower personal taxation. This should boost consumers' disposable income and propensity to spend while any cuts in corporate tax rates will provide additional support for their profits and future spending.
A further potential turbo charge to the US growth story comes from the deregulation process for banks, energy and the healthcare sector. A drive to "set these markets free" could well provide further support for corporate profits and spending.
Some analysts see hope for US corporate taxation actually falling below the OECD average and reduced regulation helping to restore the competitiveness of the US manufacturing sector. With this contributing 11.5% of GDP any improvement will quickly energise US growth prospects.
Again it is worth remembering the consequences of growth that becomes unsustainable. This presents a risk of the US economy overheating with the Federal Reserve's 2% inflation target coming under pressure. There is already an expectation of the Fed dipping into its monetary toolbox with at least two interest rate hikes expected. Any surprise around additional rate increases could well take the sheen of the US recovery story. What's more, any renewed dollar strengthening against major trading partners could provide a meaningful headwind to US corporate profitability.
The future for free trade
With so much protectionist rhetoric during the election campaign, there is considerable concern around the ability of the global economy to take the necessary steps to free up markets and grow the volume of cross-border trade. President Trump talks about an aggressive pursuit of trade reform to correct what he perceives as a complete lack of balance between the US and key trading partners such as China and Mexico.
Any talk of tariffs or new "border taxes" could potentially distort costs and pricing power for American and international firms operating in the US. The extent of this varies according to sector and business model but the consequences could well be significant and create a drag on profits plus an acceleration of inflation.
Discussions around trade link closely with Trump's concerns about levels of immigration. His populist approach may appeal to his supporters but raises questions about the long-term sustainability of the US economy given the aging "native born" population and its ability to fill the jobs market.
Where now for global growth?
Investors should always prepare for uncertainty but also be ready and able to exploit opportunity. Dramatic shifts in policy whether in the US or elsewhere could yet inject instability into global markets during 2017. However, there is a real global growth story that is going on right now and extending across major economies all around the world. With this positive backdrop, investors should seek to participate in the recovery taking place but still ensure that they manage risks potentially arising from any radical policy changes announced by President Trump.
Although global equities are by no means cheap they do still compare well with bond markets (both government and corporate) where investor return prospects do not fully reflect the credit risks and interest rate volatility faced by investing in debt. There is scope for a higher exposure to high yield and emerging market debt but a need to be mindful in the light of today's shifting risk-reward prospects. A shift away from bonds towards equities is one that potentially boosts the prospect of an enhanced return.
The Japanese market is also set to be a primary beneficiary from corporate reform and global recovery given its export led economy. As a result, earnings expectations are going up and there does at last seem to be something of a recovery in the Japanese corporate sector.
Discussion of Europe so often focuses on problems with political instability and concerns around Brexit and the single currency. However, there is a risk of overstating these and Europe may well also benefit from the brighter international outlook. Combining this with scope for profitable stock picking in the US market in 2017 and it becomes clear that opportunities exist for investors ready to ride the wave of global growth. However, it is still true that risk mitigation counts. With this in mind, gold may well merit its "safe haven" status if political events surprise and it is also worth considering some exposure to the alternatives space through appropriate risk premia strategies. President Trump has energized the US political scene. Global markets show clear signs of having their own energy too and offer real opportunities for the informed investor.
CIO Private Banking