It has been quite an eventful week in the US. The Trump administration has provided some colour to its proposed upheaval of the tax system. There has been a softening of the president’s stance on the North American Free Trade Area (he is calling for renegotiation rather than withdrawal) and today is the deadline for agreeing a budget to avoid a shutdown of the US federal government.
100 days of Donald
The 100th day of a presidency is a milestone, as it marks a key point for reflection on progress against campaign pledges. This is when new administrations normally enjoy a honeymoon period of goodwill, as citizens rally around their new president and incoming teams seek to hit the ground running, demonstrating energy in implementing new legislation.
In the case of the controversial Trump administration, there has been no such period of general goodwill. The election campaign was one of the most divisive in living memory, marred by allegations of covert Russian meddling. In terms of turning campaign pledges into hard legislation, President Trump has struggled on multiple fronts. His proposed travel ban for citizens from a range of Muslim-majority countries is tied up in legal challenges and his initial attempt to pass a new healthcare act was aborted after failing to secure enough support in Congress, even from his own Republican party. That does not predict future success in enacting other campaign pledges.
The investor reaction
From an investment perspective, the election of President Trump initially saw an outbreak of investor bullishness over his proposed cocktail of measures to boost US growth. This included advocating significant reform of the US tax system, incentivising US multi-nationals to repatriate profits held in overseas subsidiaries, major investment into creaking US infrastructure and cutting red tape for the US banking sector.
In the immediate aftermath of the US election, financial markets flipped rapidly from pre-election fear (over what Trump’s volatile personality, political inexperience and protectionist instincts might mean) to exuberance about the potential for his policy prescriptions to boost growth and reflate the economy. And when US growth picks up, that’s usually good news for the global economy. Notably, purchases of US equity funds and global equity funds (which typically have high US exposure) by UK investors became more popular following the election, while at the same time many investors have continued to shun UK equities – perhaps due to ongoing anxiety around Brexit.
As we regularly point out, markets have a habit of lurching between hope and fear. There is also an investor tendency to forget that politicians routinely over-promise and under-deliver as campaign commitments are thwarted by horse-trading, compromises and partisan gridlock. The stumbling progress of the Trump administration in enacting its policy agenda means that there are serious doubts around the extent to which Trump’s bold economic prescriptions will see the light of day.
A renewed momentum
The Trump administration this week sought to renew policy momentum with an announcement on its plans to reform the US tax code – a statement that the president trailed in advance on his favourite media channel, his Twitter account. But the statement amounted to a single page of bullet points, rather than a detailed document. The proposals on the surface are undoubtedly bold. They include aggressive cuts in corporate taxes to 15% and the streamlining of seven income tax brackets into three new ones. But the lack of detail – which included no indication of the threshold levels at which different income tax rates might kick in - has created uncertainty and confusion, most notably over whether such measures will widen the US deficit. This much-vaunted announcement has disappointed the financial markets.
Where do we go from here?
Including US equities in a long-term portfolio makes sense, as the US is home to some of the finest listed businesses on the globe and it is the premier market for many high-growth industries such as technology and healthcare.
But investors should be wary about making major investment decisions based primarily on political developments, as politicians often disappoint. One of the major risks faced by UK investors who aggressively bought into the Trump story last autumn is that they deployed their hard-earned pounds at a point when sterling was oversold, to buy US shares that are standing at historically very expensive valuations on most measures. These investors could be exposed to a double whammy of both a recovery in sterling and a possible bursting of the US equity bubble at some point.
In our view, European markets currently look like a more attractive destination. Valuations are less demanding – suppressed in part because of anxieties around the populist threat in a spate of elections – and growth is picking up. The make-up of European markets is also more skewed to cyclical industries than the US market, which could rerate if global growth continues to improve. While dividend pay-out rates are quite high in Europe, at around two-thirds of earnings last year, there is certainly more headroom for dividend growth than the UK, where 90% of earnings were distributed last year.
This article was previously published on Tilney prior to the launch of Evelyn Partners.