12 Jul Markets Press the Mute Button
There seems to be another scandal in the Trump administration each and every time one turns on the news. The White House has been putting out fire after fire, and the media has been focusing on worst case scenarios, ignoring to a large degree the fact that Trump and his associates may just as well be found to have had no involvement or meddling with Russia and the campaign at all.
Regardless of one’s opinions or political affiliation, what is certain is that the outcome of this pending investigation remains unknown. However, the market does not seem to be worried about all the noise. Volatility has retreated back to historic levels and markets have recovered their short-lived losses.
Has anything changed? Is there more clarity as to Trump’s potential involvement with Russia? Is there any evidence whatsoever to justify the market climbing back up? Either the market has a short memory and investors are being greedy, or the market just happens to be in a healthy position with strong fundamentals to support it. Our view is the latter, as long as policy and reform work together as catalysts to reinforce the state of the economy: a “Goldilocks” economy that is neither too hot nor too cold.
We believe the market does not care much for Trump or what he says, what truly matters is policy enactment and actual reform. Trump is simply the chauffeur driving a car (policy) from one destination (the floor of congress) to another (signed into law). The change is what matters, not who is driving the car, and the important thing is to get there. So far there have been many potholes and speed bumps along the way, some may even argue that there have been minor collisions, but what the government needs to focus on is getting back on the road and pushing forward. One of these implications is understanding how Republicans will respond to the noise.
It is common to hear from news pundits that Trump’s actions have distracted the administration from drafting and passing new legislation. Many analysts beg to differ, stating that some Republicans see an expiration date to their majority in Congress if this long investigation proves to end badly, therefore instead of being slowed down, legislation will be pushed at an even faster rate. The purpose of this is to make sure that there is a large enough headcount in Congress to pass laws, particularly those relating to tax, healthcare, infrastructure and energy reforms. Republicans want to do as much as they can before their opportunity comes to an end.
Democrats will oppose Republicans rushing to push their agenda through. A notable example of this was seen during the healthcare vote in the House, but it was made clear that Republicans have a rare opportunity to get what they want regardless. The nomination of Robert Mueller as special counsel overseeing the Russia investigation also plays a very positive factor in easing tensions between the two parties, given that he is highly respected by both sides of the aisle. It helps in lowering the political temperature, further giving the Administration the green light to act quickly on its policy agenda. Top legal analysts suggest that Mueller’s appointment will in fact benefit Trump, given that Mueller is a person who would try to avoid leakage of information, the proceedings will happen out of the public eye, and it is more likely than not that Mueller will find no evidence of a crime. Additionally, Richard Burr (the Republican chairman on the Senate intelligence committee) and Mark Warner (its ranking Democrat) have vowed to see the investigation through to its conclusion. Thus far, they have both shown earnest bipartisanship, acting as partners and allies in these sensitive moments.
In terms of investigation outcomes, it is important to understand the “i” word and its implications. Firstly, impeachment is a political, not legal, process. These proceedings can be initiated by the House for whatever crime it deems worthy. As long as Republicans control the House, it is unlikely that they will call for impeachment hearings unless they begin to feel that the risk of continuing to support Donald Trump outweighs the risk of abandoning him. Only then will they begin to turn on him and jump ship. Their support is likely to hold firm so long as Trump’s approval rating among Republicans remains high.
This political calculation should not be mistaken with loyalty — many Republican politicians privately are in opposition to Trump. The party’s true loyalty is to a conservative agenda that includes tax cuts, deregulation and the repeal of Obamacare. For the markets, the significance of the political news is what it means for economic policy. At the end of the day, classic fundamental determinants of the markets —inflation, Fed policy, government deficits, foreign demand, value of the dollar, equity market valuations and volatility—appear much more important than any of Trump’s potential wrongdoings.
The idea of “President Pence” became popular among those who favored Trump policies without the accompanying personality and character. Wharton finance professor Jeremy Siegel predicts that if President Donald Trump is driven out of office, the Dow could jump by 1,000 points, or 5%, even before Mr. Pence were to take over the White House. That’s because the bull market is potentially propelled by the Republican agenda, not the agenda of Donald Trump.
Although we are experiencing political risk, we believe there is no increase in systemic risk. Since inception, our view at BigSur has been that the United States offers the greatest “ecosystem” for investment, given the efficient integration of both a strong economy and stable political system. The U.S. has one of the strongest forms of “checks and balances”, therefore we will soon see a resolution regarding this investigation, and unlike in other countries, we will not remain in a “limbo” situation indefinitely. We believe we are at the late stage of the economic cycle and of the bull market in the United States. However, this bull market has one or two more legs, especially after these political uncertainties are resolved. We recommend clients with low equity allocations to take advantage during the summer (where we see a range traded market) to buy on weakness. And no doubt that some short-term market weakness could come with negative political noise.