As is customary when a current event occurs that has implications for the capital markets, we send a notice to our clients to state our thinking and how we are positioning portfolios. After the election results were announced, we gauged market activity and sent the below to our clients and are sending again to our Weekly Market Makers subscribers.
Navigating the Unknown
As the week draws to a close, we wanted to share some perspective on what was a surprising week for our political system. Against this backdrop, the capital markets once again demonstrated they do not like surprises or uncertainty. Following the announcement that Donald Trump had secured the necessary 270 electoral delegates, equity markets sold off around the world. In America, in pre-market trading the S&P 500 futures were halted at one point when circuit breakers were triggered at the maximum decline of 5 percent. However, the cash market ultimately opened in positive territory and closed with a gain of 1.2 percent Wednesday and another gain of 0.2 percent yesterday.
The volatility related to Trump’s surprise victory will likely continue as investors try to understand and discount the economic implications of his administration. Ultimately, it is the underlying fundamentals that determine the direction of capital markets. In the short term, a changing political landscape promises a higher degree of investor anxiety.
As Trump and Sanders gained momentum in the primaries, Strategas Chairman and Founder Jason Trennert very aptly described the political climate last February when he authored a paper titled, “Angry is the New Hope.” First it was “Brexit” in the U.K., now the presidential election in the U.S. and next month we will have the Italian constitutional referendum, followed by the German and French elections next year. With a U.S. economy that had enjoyed annual GDP growth of 3.1 percent for the 40 years prior to 2008 and scarcely 2 percent since then, clearly there is a connection between the economy and the populist movement that has been sweeping much of the developed world.
What does this mean for client portfolios?
Like many we were planning for a Clinton victory, but in acknowledgement of heightened risks and diminished potential returns, we reduced our recommended equity allocation to “neutral” in September and adopted a more neutral sector stance within domestic equities, which we communicated to clients on September 27 through our Investment Strategy Update, titled, “Keeping It ‘Close To the Vest’”. Since we were positioned for a “split government,” believing that defense and infrastructure would benefit with either administration, client portfolios have been emphasizing both. We were also overweight healthcare because we thought that a split government would not put undue pricing pressure on pharma. At this formative juncture, we are not initiating any material post-election changes to portfolio strategy.
What are the potential winners and losers in the capital markets?
From the campaign, we know Trump favors lower taxes, elimination or major revision of the Affordable Care Act, infrastructure spending, and defense spending. On the other side of the ledger, a major area of concern is the possibility of altered trade agreements and increased tariffs that would impair international trade. Acknowledging that candidate campaign themes can often differ greatly from what is ultimately enacted; we offer our preliminary assessment of investment opportunities and risks:
Healthcare – pharma and biotech
Industrials – defense and infrastructure
Energy – infrastructure and pipelines
Financials – banks and insurance companies
Multinationals with overseas manufacturing
Republican control of both chambers on Capitol Hill may increase the likelihood that at least some of Trump’s key agenda items will become reality. Enactment of a substantial stimulus package could modestly increase the pace of economic growth next year. If combined with tax cuts and tax reform, the budget deficit would widen and move interest rates higher.
One thing we are certain of at this juncture, there are more questions than answers. As always, we shall remain vigilant in managing risk and staying focused on satisfying the long-term investment objectives of our clients. If at any time you have questions or concerns, please do not hesitate to contact us.