Sunday, November 27, 2016

Trump's Thesis on Jobs and Trade Restrictions


Trump says he will cancel trade agreements on his first day in office as his anti-trade approach to bring back jobs rhetoric is supported by his voters.

We live in interesting times as the Republican party has been pro trade and anti trade restriction since Ronald Reagan was President. We will see how this issue plays out as the interests of the business wing of the Republican party are at odds with Trump and his voters who believe he will bring back jobs through trade restrictions. His voters are likely to be disappointed.

In reading the research, I find no credible evidence that significant job growth will be created by trade restrictions and barriers. The research I am referring to leans Republican. I also looked at the evidence on this topic from multiple points of view. Trump's argument on this topic appears to be the least credible I can find.

For folks who lean right that are interested in learning more about free trade and jobs, I would recommend the most well known Republican leaning think tanks, The CATO Institute (CATO) and The Heritage Foundation (Heritage). These organizations extensively cover this topic and have published Republican leaning pro trade arguments and research for years.

It will be interesting to see how the battle plays out within the Republican party.

For folks who would like to go beyond CATO and Heritage on this topic, feel free to reach out to me.  

Sunday, November 20, 2016

Trump's Economic Rhetoric

It is one thing to run a campaign based on misleading economic rhetoric about cancelling trade agreements, bringing back coal and manufacturing jobs, stopping companies from leaving the U.S., losing to foreign countries via U.S. trade deficits and restricting trade along with immigration to appeal to voters. It is another thing to govern. Campaigns are easy in comparison. Governance is hard even if you are prepared and knowledgeable. Trump is not. The Trump campaign can be likened to a dog that to its amazement catches the car - now what?
Trump, an opportunist allowed for the will of his voters to be voiced, ill-informed or not. This is dangerous. As Churchill once said, "The best argument against democracy is a five-minute conversation with the average voter." Trump, the opportunist stuck with simplistic ideas during the campaign and his voters took the bait.
The country and world are currently waiting for answers to what Trump's actual political and economic approaches will be. Given his lack of experience and policy specifics, there are questions everywhere about the effect of his Presidency on the future of the markets and economy both in the U.S. and the world. In the meantime, forward looking markets have already reacted and adjusted to what the currently perceived forward economic and financial future may hold for the U.S. based on Trump's campaign rhetoric and acceptance speech. The current forward looking economic and financial market assumption set will be impacted by his ongoing rhetorical comments, stated positions and will continue to adjust.
The markets are currently discounting (i.e. expecting) large amounts of U.S. government deficit/debt financed infrastructure spend, military spend and tax cuts that will benefit the owners of capital (banks, Wall Street and the 1 percenters). This is seen as a potential short-term economic positive for the economy and select sectors of the U.S. stock market but a big negative for the credit market. The markets are also discounting deportation and reduction in immigration, trade restrictions and deglobalization, which is seen as a negative for the economy. Institutional investors to some degree, rotated their bets post election day out of bonds (triggering and reacting to an increase in interest rates) and into select stocks of companies that are perceived to benefit from Trump's policies (e.g. commercial banks, finance companies, investment banks, construction equipment and supply companies and select healthcare providers, among others) while trading out of company equity that may be hurt by Trump's policies (e.g. multinational companies, and software companies among others). Key Trump appointments and comments that are interpreted as policy will continue to move markets in assets classes (stocks and bonds) that are already fully valued.
Should Trump supporters looking for change who bought into putting America first rhetoric and the past be happy? The answer is, probably not, given forward looking reality. In response to Trump's perceived policies and election results, interest rates have already increased and are expected to continue to do so thereby wiping out a significant amount of value out of the bond market. The combination of ongoing multi-year improving U.S. economic conditions (despite the contrary argument of the right) and massive debt financed Trump spending programs, have and will continue to drive interest rates higher resulting in borrowers potentially being poorer and asset classes (e.g. stocks, bonds and real estate) potentially facing downward risks/adjustments due to current full valuations and higher discount rates. If you are a borrower, worker, industry or region (e.g. household mortgage borrowers, the home building industry or U.S. government) this is a negative which is set to get bigger. In the week that followed the election for example, U.S. mortgage rates increased about 50 basis points due to Trump's perceived economic policies which triggered an approximate 9% decline in U.S. mortgage applications.
In response to interest rate increases due to parity relationships, the U.S. dollar has also increased in value and is expected to remain strong, thereby hurting revenues and earnings of U.S. exporters (e.g. manufacturers, tourism related businesses, U.S. multinationals, software and education industries, among others) and the workers employed in these industries. This is a significant headwind that is expected to persist.
Trump argued on the campaign trail and his supporters believe that trade deficits hurt the U.S. and its workers. Trump's stated position of deficit/debt financed government spending which has already increased interest rates (and will continue to do so) in turn increases the value of the U.S. dollar due to parity relationships. Increases in the U.S. dollar increase trade deficits as foreigners spend less in the U.S. (because American goods and services are more expensive for them due to dollar strength) and Americans spend less at home and more abroad (because foreign goods and services are cheaper for them in U.S. dollars). This in turn hurts U.S. companies and workers and helps foreign companies, economies and workers. Trump's simplistic arguments and beliefs lose credibility when matched up against actual economic and market fundamentals. His supporters will not necessarily be better off and may very well be further damaged. Change is in this case is complex and arguably negative for his voters.
Can tariffs and trade barriers work for U.S. workers? The answer is complex but likely no. A credible argument can be made that job losses will occur in U.S. businesses and industries negatively impacted by imposition of trade barriers put in place by foreign countries in response to Trump's actions. China has already indicated they will do this. U.S. Jobs losses triggered by international reaction to U.S. trade barriers offset U.S. jobs protected by trade barriers. Costs are also increased for consumers. The U.S. learned this hard lesson due to similar actions by president Herbert Hoover that significantly contributed to the U.S. depression. Let's hope Trump is able to recruit sane economic policy advisors and does not take extreme measures here. The jury is still out. His simplistic rhetoric and action, if it occurs, does not match up with reality setting up disappointment for his supporters who are negatively affected here and also poses risks for the economy.
Can Trump stop companies from leaving the U.S.? The answer is probably not due to a range of political and economic factors as well as knock-off effects. At the most basic level, business enterprises tied to the global supply chain have the ability and flexibility to adapt to available alternative global business opportunities where they weigh risks and returns based on long term investment decisions (measured in years or decades) that go beyond the next four year U.S. Presidential election cycle. Businesses affected by such restrictions, operate to produce returns for owners of capital as opposed to workers and operate on a global scale. Priority of owner interests, long-term investment strategies, flexibility and global supply chain reality will drive their decisions and override this restriction.
Finally, the economic forecasting community has updated its forecast of the U.S. economy post Trump's election and the new consensus for U.S. GDP growth remains unchanged at approximately 2%. In other words, economic forecasts of 4% to 6% GDP growth put forth by Trump supporters are not credible. High profile institutional investors have now weighed in on Trump's presidency and resulting forward looking economic/market conditions. Ray Dalio of Bridgewater (a large hedge fund manager) made comments about Trump's perceived economic approach that skewed probabilistically positive on a short term basis. Bill Gross (the world most famous bond manager) who made negative comments about Trump's economic approach, said that workers will not benefit by his policies and that Trump will be a one term President. Similar to Gross, Jeremy Grantham's GMO ( a large global fund manager) indicted that given today's low yields and high valuations across almost all asset classes, there are particularly no good outcomes available for investors.
It remains to be seen who Trump appoints as key economic advisors and if he is up to the task of governing in an economic world that is far more complex than he and his supporters demonstrated thought process. His supporters are ill informed. He is inexperienced and will have to prove himself. Given the misleading and simplistic economic rhetoric he has put forth, there is a large gap between his rhetoric and reality. His voters face a future where the expectations tied to economic promises made to them will not be met. Over the longer term, it will become clear that change for change sake is disappointing as change has consequences beyond the rhetorical arguments. Trump's populist rhetoric is anti trade-globalization which is the antithesis to the traditional Republican global pro trade approach. The markets are looking ahead to see how this issue is resolved. For now, Bill Gross's thesis appears to be the most credible and Trump's honeymoon with his voters appears to be to short lived.
A Brief Note on Local Conditions

I am writing from Las Vegas, NV. The Las Vegas economy is primarily based on two industries, gaming and real estate. In terms of thinking about interest rates, trade and dollar strength, Las Vegas Strip gaming would be hurt by strength in the dollar due to its impact on significant international visitation and spend along with domestic tourism spending being redirected to non domestic markets. Trade restrictions could also hurt the industry. The gaming industry could also be hurt by interest rate increases due to balance sheet debt. Time will tell but it is worth noting that MGM's (the largest casino operator on the LV Strip) CEO, Jim Murren endorsed Clinton based on economic rational along with other factors. Rate increases may also be negative for the real estate industry in general. We will have to see how this plays out, but gaming and real estate stocks were negatively volatile immediately post election.