The markets in Trump's uncertain world

Before the US election came to its surprising conclusion on 9 November, the world was awash with opinions as to what would happen if Donald Trump was elected the next US president. If you exposed yourself to even just some of the predictions that were circulating you would have been as convinced as everyone else that the moment Trump was declared the winner, the world would, in that very moment, catch fire.

Well… it didn’t. The polls, the experts, the visionaries – they all got it wrong. Again. Much like Brexit, nobody thought it would happen, and yet it did. Interestingly, before the election was held, there was a lot of chatter in financial media about a possible “Brexit-like” market reaction to a Trump victory.

That was at least one prediction that was spot on. Sure, instead of playing out over a span of four days before the Dow Jones Industrial Average (DJI) started breaking the pre-Brexit highs as we saw in June, it took all of 24 hours for the pre-Trump highs to be taken out and two days before the DJI started making new record highs.

Market reaction

So despite all the doom and gloom predicted by the polls and expert guessers, the market surged higher with ferocity it has not shown in a long time. Well, sort of. Yes, the DJI has gone on to print new record highs, but the overall US market as a whole has not. If we consider the NYSE Composite Index, then not only will we see that it has in fact not gone on to print new record highs post-Trump, but we can also observe that market breadth is really very, very low (see graph below).

Using data supplied by McClellan Financial Publications, we can construct a market breadth indicator that shows us the difference between the number of shares that are advancing versus those that are declining on any given day on the NYSE Composite Index. This can be a helpful indicator as it attempts to show us how much of the overall market is participating in any given move.

For example, on 7 November, when the world thought Hillary Clinton would win, the NYSE Composite Index rose by some 2.03% while advancing shares outnumbered declining shares by two thirds (approx. 2 000) of the 3 000-odd total shares that make up the NYSE Composite Index. In other words, 2 500-odd shares rallied that day, while only 500-odd shares declined (breadth is then determined by calculating the difference between advancing and declining shares).

Conversely, after it became clear that Trump had won, the NYSE Composite Index had risen a further 2.84% between 8 and 14 November; however, this time market breadth was only an average of 178 over the span of the entire rally. This means that advancing shares only outnumbered declining shares by an average of 178 shares over those five trading days. Meaning that significantly fewer (only just over half) of the shares that make up the NYSE Composite Index were taking part in the rally. So in other words, we can deduce that it was only the large caps and index heavyweights that were driving the market.

So all right, the Trump rally is not all that it appears then. What else is going on? Well, looking at the reaction we’ve seen in the US bond markets, we note that 10-year yields have jumped higher by about 40 basis points (bps) since the election. This is an indication that the market is expecting an uptick in inflation in the coming months and years. So much so, in fact, that Oxford Economics expects medium-term US inflation rates to be as much as 30 bps higher. Resources, most notably copper and iron ore, rocketed higher after the election as well. The market is pricing in a delivery of Trump’s promise to “make America great again”.

Trump’s plans

To explain some of these moves it might help if we took a high-level overview of some of Trump’s proposed policies and plans. There is a great focus on domestic infrastructure spending and redeveloping the American industrial complex, which will likely create jobs, but moreover, create demand for basic materials and metals. Thus we see a push coming from commodity prices as well as resources stocks.

The theme of US economic dominance and “bringing home production” does not sit well with all sectors though. The FANGs (Facebook, Apple, Netflix, Google/Alphabet) and the Nasdaq Index overall have come under severe pressure.

Tech stocks are, even at the best of times, high-risk investments and when there is some uncertainty floating around they tend to take a hit. Trump represents nothing but uncertainty about everything from foreign policy to the continued participation of the US in multilateral trade agreements. 

Nothing is certain, and neither is whether or not he was serious about forcing Apple to manufacture its products in the US. If he was serious and he does somehow manage to force the company to move its manufacturing plants to the US, the impact on Apple would be massive. It is estimated that it will cost Apple as much as $58 for every iPhone it manufactures if it was to move its manufacturing operations to the States. That would not only erode its profits, but also make its product uncompetitive globally.

At the end of the day it is unlikely that Trump will forge ahead with this threat, but at this stage the market feels very uncertain about exactly what his administration is going to do to the likes of Silicon Valley.

On the more positive side of the coin, there is speculation that the Trump administration could do away with the Dodd-Frank regulation that currently holds US banks in check when it comes to how much risk they are allowed to take and how much reserves they require in order to do so. If this regulation is removed, you can imagine that Wall Street will be a big, big winner. Banks are expecting the best. As are biotechnology and pharmaceutical companies, although perhaps it’s more about being relieved that Clinton lost than being happy that Trump won.

Trade relations

Let’s assume that Trump manages to renegotiate the North American Free Trade Agreement (Nafta), as he said he wanted to during his campaign, and let’s assume that he does manage to withdraw the US from the Trans-Pacific Partnership, and that he does impose 45% import taxes on products from China, which he sees as a “currency manipulator” – what will all of this mean?

Some commentators believe Trump’s impact on the US economy can be similar to that of Ronald Reagan in the 1980s – rebuild the US as an industrial powerhouse and (perhaps as a side-effect) draw thicker lines between the US and the rest of the world.

His planned infrastructure bonanza should have a positive impact on commodity exporters like South Africa, but there are concerns about the impact of higher trade barriers on emerging markets.

For SA, the main concern is the continued inclusion as a beneficiary of the African Growth and Opportunity Act (Agoa), which gives SA duty- and quota-free access to the US for over 7 000 product lines, without having to provide any reciprocal market access for US exporters. Several US lawmakers have already lobbied for SA to be removed from Agoa, which is really aimed at helping poor African countries, and especially while SA still maintained high import restrictions on US chicken, beef and pork products. Would Trump have been willing to negotiate to resolve the matter to the same extent the Obama administration did, or would he simply kick SA out of Agoa when disputes arise?

These are all questions that we cannot answer now, nor will we have a solid grasp on the type of president Trump will be until at least a year or so has passed. What we do know now is that there are some really big businesses that are very happy that he won the election, and thus markets have risen. However, there is also an undercurrent of worry and uncertainty.

Looking at the way the 10-year yields have reacted, I would hazard a guess that we will likely see an interest rate hike out of the US Federal Reserve before year-end. Beyond that is murky and impossible to see. At the very least we can say that history was made with this past US election, and that the next four years are going to be very interesting.

Petri Redelinghuys is the founder of Herenya Capital Advisors.

This article originally appeared in the 24 November edition of finweek. Buy and download the magazine here.

 

 

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