In a holiday shortened week in the U.S., the post-election euphoria fueled by speculation regarding the Trump administration calmed modestly but showed no significant signs of abating. The theme of improving US growth continued, equities edged higher with multiple US indices reaching all-time highs, discussions about economic stimulus as potential Treasury Secretary Nominees made headlines, and commodities inflation including industrial metals continued to rebound. The little new information that did impact markets during the week was consistent with the theme of Federal Reserve (Fed) rate hikes beginning in December and continued discussion about populism and the impact on politics and markets, with the current focus on Europe.
A new narrative has emerged about the macroeconomic and market implications of Donald Trump’s agenda since his election as President. It seems that many if not most strategists and investors now believe that Trump will deliver a large unfunded fiscal stimulus, infrastructure spending, tax reform and de-regulation and that package will confirm America’s economic prowess on the world stage. Treasury yields remained significantly higher and the yield curve flattened in anticipation of more growth, inflation and supply. High yield indices crept closer to their August highs as oil flirted with $50 per barrel. The Dow, NASDAQ, and S&P 500 all reached all-time highs with each up 6, 8 and 9 percent, respectively, for the year, and about half of those gains occurring since the presidential election. Meanwhile, as of Tuesday afternoon, President-elect Trump was expected to name investment banker Steven Mnuchin as Treasury Secretary. This supports the market’s belief that Trump would be good for banks and the financial sector. The S&P 500 financials index has outperformed the broader index since the election by over 8%. It seems that all of Trump’s nominees have been subject to a positive spin by investors. His short list of Secretary of State Nominees includes Mitt Romney, who tried to disqualify Trump for running for president. Trump’s reconciliation with Romney has been interpreted at least initially as a pragmatic move by a thoughtful president-elect who values experience and diplomacy over confrontational swagger.
There has been too little time since the election to determine if the economic data supports the “America will be great again”, theme but preliminary reading on the Black Friday/Thanksgiving weekend shopping trends are as good a place as any to start. The National Retail Federation’s survey (which samples 4,330 consumers) showed that while the number of shoppers rose by an estimated 3 million this year, the average spend was down -3.5% and the nominal decline in retail spending fell -1.5%. However, there appeared to be significant discounting as evinced by 50% of consumer saying “deals were too good to pass up”. Thus in real terms, a notable year over year increase is very possible and the survey excludes activity on “Cyber Monday”, which has become incrementally more important over the years.
While we believe there is some selection bias given the minimal focus on the potentially damaging protectionist measures Trump touted during the campaign. Financial markets have not supported our view. With the exception of perhaps Mexico, emerging market rates have not only outperformed US rates since the election and since the global steepening began in September, but also significantly in relation to the taper tantrum of 2013 when those rates had a positive but muted correlation to US rates. Copper was up 8% on the week, 15% since the election, and 27% on the year to $5860 per metric ton, the highest level since June 2015, all in anticipation of a pickup in global demand, ostensibly led by the U.S.
The political theme was not confined to the U.S. In Europe, former Prime Minister François Fillon emerged victorious from the Republican primary process. The conservative Fillon defeated the more moderate Alain Juppé, and now looks the favourite to face off against Marine Le Pen in a battle between the right and the far right in the final round of the Presidential elections in May. The default assumption will be that Le Pen will lose because a sufficient numbers of voters from the centre and the left will fall in behind a candidate who claims to admire Margaret Thatcher and uncharacteristically wants to slash spending and cull half a million public sector jobs. In our view, a greater threat to the European project from populist insurgents probably lies in Italy, where there is a December 4th referendum “officially” on constitutional reform but “effectively” on the leadership of Prime Minster, Matteo Renzi. Thus far, polls suggest a “no” vote, which coincided with the yearly highs on both 10-year Italian bonds of 2.13% and their spread to 10-year German bonds of 187 basis points during the week.
Political risk overshadowed the economic data in Eurozone, which included flash PMI data that suggested a sharp improvement in activity. The Composite index rose from 53.3 in October to 54.1 in November – an 11 month high. The preliminary break down of the data surprisingly shows strength in the periphery. Beyond Germany and France, growth of business activity accelerated markedly to a ten-month high, with new orders and employment likewise recording stronger rates of increase. It remains to be seen whether this rebound shows up in the hard data but the improvement will only bolster German opposition to additional ECB stimulus and support for tapering Quantitative Easing (QE) on the grounds that extraordinary policy is no longer necessary. In our view, such a decision would be premature.
Declining cost in the U.S. and the reduced regulatory hurdles we could see under the Trump presidency will likely add U.S. supply and challenge forecasts of $60/barrel by the end of next year. A key discussion topic for the week was the upcoming OPEC meeting in Vienna on November 30th. We do not expect OPEC will succeed in regaining much upside pricing power due to the cost compression in the U.S. heightened political risk, and distrust among members, most notably Saudi Arabia, Iraq, and Iran. Oil prices were essentially flat on the week.Download to read more