2016 was a year of political surprises in which the inaccuracy of pollsters proved that we are living in a changing world. In June, to everyone’s surprise, the UK voted to exit the European Union. Before the vote, virtually none of the major polls predicted that “leave” would win. The very few people that did foresee a “Brexit” scenario predicted it would have negative economic implications for the UK and the world. Therefore, it was expected that global stock markets would suffer if “leave” managed to come out victorious. Markets indeed experienced a decline of more than 6%*... that lasted less than a month!
Only a few months later, across the Atlantic Ocean, the US went through a similar election in which a populist candidate, Donald Trump, was facing a safer, more conventional option, Hillary Clinton. Leading up to the election, most polls predicted Mr. Trump had a probability of less than 30% of taking the presidency. And in the few instances when his probability of winning increased, global financial markets reacted very negatively. To everyone’s surprise, Mr. Trump won by a meaningful margin, and markets indeed reacted negatively. The S&P experienced a decline of 5% the night of the election…and the drawdown lasted a total of 10 hours!
Following Mr. Trump’s election, global markets have rallied. The S&P has returned over 6% since November 8. Contrary to the period before the election, more emphasis has been placed on President -elect Trump’s plans to lower taxes, decrease regulation, and increase government spending for infrastructure than the risks a Trump presidency might bring.
Since the election, steel companies have increased in value more than 25% and financials have risen more than 14%.** Simultaneously, sectors such as technology, clean energy, and utilities have suffered significantly.
It seems that investors have completely discounted the risks associated with having a president with no previous political experience, one who has chosen to surround himself with a cabinet that has the lowest aggregate years of political experience in US history. Additionally, it seems investors have fully priced in all of Trump’s plans assuming they are all going to happen in the first few months of his presidency.
An increase in government spending would in fact be a positive for steel companies, but the effects would likely take years to impact a company’s bottom line. Similarly, decreased regulation for financial institutions would also take a significant amount of time to go through Congress and have an impact on financial institutions.
It is important to remember that we are going into the eighth year of a bull market (period of time when the market rises), when the average economic cycle is ~6 years. All of this must put in question the durability of the post-election market and economic euphoria. The key question for 2017 is, what will dominate -- Trump’s efforts to boost the economy or the trajectory of the current aging economic cycle?
* Estimated using MSCI all country world index
**Steel company performance estimated using Dow Jones US Steel and Financials estimated using Dow Jones US Financials Large Cap
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