The election of Donald Trump as US president has been seen as the start of a period of major change for the country. But it looks like investors are taking it to represent little more than a confirmation of their recent preferences.
The main ‘takeaway’ from a market point of view can be summed up in a single word: inflation. We had already seen signs of investors shifting from a deflationary to an inflationary mindset this summer, and now it’s taken hold en masse.
What would a return to inflation mean? A further rise in equity indices is one obvious consequence, hence last week’s rally.
It already seems a long time ago that markets were selling off on every hint of a Mr Trump bounce in the polls – or indeed on last Wednesday’s news that he had won. Investors have overcome their aversion to the man much quicker than many others will.
What reason is there to believe Mr Trump’s stimulus plans will be implemented, and then effective in raising inflation?Dan JonesThe significant market rebound since Tuesday night will be seen by intermediaries as another example of why their decision to look through short-term noise is justified. But it’s a little more nuanced than that.
After eight years of deflationary pressures, a change was always going to produce losers as well as winners, and certain sectors and asset classes are already suffering from a belief that the Trump administration will introduce major fiscal stimulus: most obviously, government bonds. Yields on 10-year US Treasuries rose by more than 0.3 percentage points last week – a significant shift given they sat at just 1.8 per cent before the election.
And just as the US’s political choices have consequences for a vast number of countries around the world, so too do its market moves.
Other government bonds have sold off in line with Treasuries, as have a number of income stocks (seen as bond proxies). Emerging markets, victims of higher yields and a stronger dollar, have also slumped. Set against this is a rally for inflation-friendly commodities, and banks that would benefit from a rise in bond yields.
One view is that markets have got ahead of themselves. What reason is there to believe Mr Trump’s stimulus plans will be implemented, and then effective in raising inflation? What reason is there to believe he will follow through with such plans at all? He has promised as such, but we’ve been here many times before with politicians, let alone Mr Trump. Institutional stasis is a powerful force to overcome.
If so, these moves should fade, and bonds and their ilk should rebound. We’ve seen this on a number of occasions since the financial crisis.
If they don’t, advisers could be confronted with a rather unusual situation. A rise in inflation would help many equities, meaning clients aren’t likely to be too alarmed. But bond and income-heavy portfolios may not be so lucky. When it comes to asset allocation, the ‘sit on our hands’ mindset will only be justified if the president fails to meet his goals.
Dan Jones is editor of Investment Adviser
