Letter from America - part one: How will Trump seek to govern?
UK equity fund manager David Docherty recently visited the US to discover more about the new Donald Trump administration and its likely impact on markets. In part one of his findings, he discusses how Trump might govern and the constraints that could limit his room for manouevre.
Unstructured Learning Time
- President Trump will govern as a transactional “CEO-president”, reducing predictability and increasing idiosyncratic risks for investors.
- He will not be immune to the normal constraints of congressional votes, time and money in furthering his legislative programme.
- Any changes to market expectations on legislation could provide scope for active investors to exploit mispriced opportunities.
Setting the scene
The conventional wisdom prior to the presidential election was that a victory for Donald Trump would be bad for equity markets. Instead, the expected “Trump dump” turned into a “Trump bump” as markets moved quickly to price in the winners and losers from the new administration.
More recently, the post-election rally in equity markets has dissipated somewhat as investors take time to assess the details of what the Trump presidency means.
In order to tackle this question, we will attempt to define Donald Trump and outline the constraints within which he will be working. We will then (in parts two, three and four of this Letter) consider the impact on markets of his policies on deregulation, taxation, healthcare, financial services, energy, infrastructure, defence and trade.
Defining @POTUS – a transactional "CEO-president"
As Donald Trump’s Twitter handle changes from @realDonaldTrump to @POTUS, the challenge remains as to how to define the real Donald Trump as we seek to predict his policy actions and their impact on markets.
It is often said that “personnel is policy” but Trump transmits conflicting messages. He appears to have a Reaganesque belief in deregulation, tax cuts and government efficiency but yet a New Deal enthusiasm for infrastructure projects, an LBJ-like commitment to social security and workers’ rights, and a willingness like Teddy Roosevelt to browbeat publicly the elites of big business.
PayPal founder, Peter Thiel, popularised the observation, originally in The Atlantic, that Trump supporters took him “seriously but not literally” whereas the media did the opposite. This is the dichotomy facing investors as they look for additional clues in those surrounding the president.
Indeed, his advisers will impart a range of views to him and he will be variously turning to family members, firebrand ideologues, former Goldman Sachs bankers and conservative establishment-types for input.
In the Congress, there will also be numerous actors whose ideas may find their way into the equation. House Speaker Paul Ryan’s blueprints on tax and healthcare are particularly relevant in this respect. Given that Trump is far from a traditional Republican, there could well be alliances with Democrats and discord with members of his own party.
In addition, it is worth remembering that state governors play a role in many of the federal government’s areas of activity and these relationships will also be important.
Despite all these cross-currents, the best way to characterise President Trump is as a CEO with a transactional modus operandi on fiscal and economic matters. This approach is epitomised by meetings on his first Monday in the job with captains of industry and union bosses.
He has pointed to “the need to bring some business acumen to the White House” and his inaugural address promised to “get the job done”, proclaiming that “the time for empty talk is over. Now arrives the hour of action”.
His cabinet selections from the “military-industrial complex” reflect this and are symptomatic of a desire to “get things done” rather than a manifestation of the “unwarranted influence” which President Eisenhower feared when he coined the term in 1961.
This CEO mind-set can be seen in his appointment of spending hawk, Mick Mulvaney, former congressman and founder member of the Freedom Caucus1, to head the Office of Management and Budget. It is also evident in reports that Trump’s transition team has a plan to cut federal spending by $10.5 trillion over 10 years.
On this basis, suppliers to the government, including defence and healthcare companies, will have to start sharpening their pencils.
For the wider market, a CEO-style of presidency is positive if, for example, it encourages more efficient government operations. However, it is unhelpful for market valuations if companies make uneconomic business decisions because they are fearful of the negative business and share price impact of falling foul of @POTUS tweets.
Playing the numbers game – the constraints of votes, time and money
President Lyndon Johnson believed that counting was the most important skill in politics and historians attribute his many legislative successes to this singular talent. President Trump will quickly realise this too as he identifies and computes the congressional votes needed to support his proposals, while simultaneously calculating their budgetary impact and quantifying the legislative time necessary to enact them.
If 42 is the “answer to the ultimate question of life, the universe and everything” in The Hitchhiker’s Guide to the Galaxy, 51 has only marginally less significance in the US Senate. This is the quantity of votes required for Trump’s top priorities of tax reform and the repeal of the Affordable Healthcare Act, aka Obamacare.
This is because both initiatives are set to be considered as part of what is known as the budget reconciliation process and 51 votes (a simple majority of the 100 US senators or 50 votes plus Vice President Mike Pence’s casting vote) will suffice.
This avoids having to secure the normal filibuster-proof minimum of 60 votes. Horse trading will still be necessary in both Houses of Congress on tax reform as competing solutions are debated amid a cacophony of lobbying appeals.
On the one hand, for example, the GOP (Grand Old Party - nickname for the Republicans) may garner the support of some of the 10 Democratic senators up for re-election next year in states which Trump won last November. On the other, fiscal hawks among Republican lawmakers cannot be taken for granted by party floor managers2, particularly in the Senate where they have a narrow 52-48 edge over the Democrats.
As for the thorny issue of an eventual replacement for Obamacare, the 60 vote math(s) will apply and, as we will discuss later, there will be much debate on issues of cost and coverage.
On the budgetary implications of these policies, the reconciliation procedure has a sting in the tail as it requires that measures are revenue neutral. This will provoke intense debate.
One Republican opponent of Obamacare, Senator Rand Paul of Kentucky, is already agonising about its repeal, given his concerns about incremental costs associated with replacement healthcare legislation.
Any use of “dynamic scoring” by the Congressional Budget Office on tax reform will also bring controversy, given the subjectivity inherent in this process of computing the impact of a tax cut using estimates of its effect on longer term economic growth.
More broadly, Trump’s long-standing promise to maintain social security entitlements and his recent stated commitment to universal healthcare insurance reduce his budgetary flexibility materially.
The other constraint for the Trump administration comes from “Father Time” since parliamentary procedures and opposition ruses can significantly slow down legislative progress. Indeed, the notion that Obamacare can be “repealed and replaced” simultaneously seems outlandish given the complexity of fashioning a functional replacement which guarantees continued coverage on a cost-effective basis.
With a battle looming over the president’s nomination of a new Supreme Court justice and ongoing hostilities on Russian hacking and other issues, valuable political capital and time could well be lost early in Trump’s presidency.
These realities of vote gathering, book balancing and legislative prioritisation will inevitably lead to changes in the expectations baked into markets at any given time. This should provide excellent prospects for active investors to exploit mispriced opportunities in affected stocks.
If you want to learn more on how Trump's presidency might affect your investments:
- Visit our special US election insights page
- Read Letter from America - part two: What will be Trump's top legislative priorities?
- Read Letter from America - part three: Are markets over-optimistic on Trump's finance, energy and infrastructure policies?
1. The Freedom Caucus is a congressional grouping of conservative Republican members of the House of Representatives.↩
2. Party floor managers gauge levels of support for particular legislation among their party’s members of Congress. They also persuade members to vote along in accordance with the party leadership.↩