Why financial markets are so positive about The Donald
But Trump fails to provide details soon about the size, scope and timeline of his programme to stimulate and deregulate, loyal supporters and investors could lose faith in his plans to reflate the US economy
Five weeks have passed since Donald Trump took the reins of the world’s largest economy. By most accounts, his administration has had a chaotic start, with some commentators even talking of a full-blown crisis.
Since Trump became president on January 20, he has been at daggers drawn with the US intelligence community, accused much of the world’s mainstream media of reporting “fake news”, created chaos at US airports by banning travellers from seven predominantly Muslim nations and, most worryingly, questioned the legitimacy of America’s judiciary – and this is just in the last five weeks.
Many commentators seriously question whether Trump will be able to complete his term in office.
In a trenchant critique of the president last Monday, Edward Luce, the US political columnist for the Financial Times, warned of a constitutional crisis. “If something cannot go on forever, it will stop. The question is how long that will take with Donald Trump. It is little use speculating about the next four years. Just multiply Mr Trump’s first four weeks and ask how long America’s system can take the strain.”
These are harsh words. But they are ones which many Americans, and a large section of the international community, agree with wholeheartedly.
Yet if the Trump administration is in such turmoil, why are financial markets so sanguine?
This is a question which is provoking considerable debate among market commentators and investment strategists but for which there appears to be no clear answer.
The facts, however, speak for themselves.
Since Trump was elected president on November 8, the benchmark S&P 500 Index has surged more than 10 per cent and currently stands at a record high. The Dow Jones Industrial Average, another leading US equity gauge, also reached another fresh high last Friday, the 11th straight day of record gains. According to Bloomberg, this is the longest winning streak since the administration of president Ronald Reagan in the 1980s.
The so-called “Trump bump” has also extended to the riskiest parts of the debt markets. Yields on some of the lowest rated US corporate bonds, known as “junk” bonds, fell to 10 per cent last week, the lowest level since April 2015, according to Bank of America Merrill Lynch.
More than US$11 billion has been ploughed into junk bond funds since Trump’s victory, exceeding the level of inflows into investment-grade corporate debt.
The dollar, meanwhile, which has weakened considerably since the beginning of this year, has strengthened since Trump’s victory, with the dollar index (a gauge of the greenback’s performance against a basket of its peers) up more than 3 per cent.
Part of the reason for this exuberance is the expectation that the Trump administration will deliver faster growth through aggressive tax reform and deregulation, thus boosting corporate earnings.
In one of the most important shifts in investor sentiment since the global financial crisis, equity markets, particularly in the US, are now being driven by expectations of fiscal stimulus as opposed to a further loosening of monetary policy.
The dollar, which has weakened considerably since the beginning of this year, has strengthened since Trump’s victory, with the dollar index (a gauge of the greenback’s performance against a basket of its peers) up more than 3 per cent
This is why stock markets have rallied in the face of clear signals from the Federal Reserve that interest rates will be raised three times this year, possibly as soon as next month.
Another, more convincing, reason for the resilience of US markets to the turmoil in the White House is that the US has long been perceived as a safe haven.
During the tense political standoff in Washington in July 2011 which threatened to trigger a default on US sovereign debt, the benchmark 10-year yield fell sharply as investors sought refuge in Treasuries. As Eswar Prasad, a prominent financial expert at Cornell University, noted in a paper for the International Monetary Fund (IMF) in 2014, the dollar’s “status as the dominant world currency [is] cemented by the perception of international investors that US financial markets are a safe haven.”
A third possible reason for the bullish mood in equity markets is that international investors instinctively downplay political risk.
Even after the mothers of all political shocks last year – Britain’s unexpected decision to vote to leave the European Union followed by Trump’s victory – global stock markets, as measured by the FTSE All-World equity index, have surged to a record high, buoyed by signs the world economy is picking up steam.
Still, the Trump-inspired rally looks increasingly vulnerable.
If Trump does not provide details about the size, scope and timeline of his programme to stimulate and deregulate the US economy in his much-anticipated address to Congress on Tuesday, investors, already concerned by the lack of detail, could lose faith in the president’s plans to reflate the US economy.
The real worry, however, if critics like Luce are proven right, is that investors were wrong to have confidence in Trump in the first place.
Market sentiment may prove to be the least of Trump’s problems in the coming months.
Nicholas Spiro is a partner at Lauressa Advisory