FYI | Sep 27 2016
Analysts sift through Donald Trump's economic policies to suggest how the financial markets will react if he wins the US presidency.
-Trump's economic policies are highly inflationary, with large tax reductions planned
-Australian dollar to weaken as US dollar rises on cash repatriation and higher bond yields
-Lift in tariffs negative for bulks and base metals before likely stimulus response from China
By Eva Brocklehurst
What will it mean for global financial markets if Donald Trump wins the US presidency? Analysts from Commonwealth Bank sift through his economic policies to date and note these, overall, are very inflationary. Assuming such policies pass through the US Congress the analysts anticipate higher US bond yields, a flatter yield curve, higher US equity markets and a stronger US dollar.
Donald Trump proposes to reduce income taxes in order to lift household and business spending, meaning the US economy would grow at a more rapid rate given consumption accounts for 70% of the country's GDP. The CBA analysts believe the reduction in the company tax rate to 15% from the current scaled variable rate of 15-35% would result in a higher re-rating of US equities as increases in net profit valuations surge. US corporates would repatriate profits, now they are subject to less tax, into the US economy, thus lifting the US dollar.
Mr Trump also proposes to boost infrastructure spending and abolish regulations which inhibit job growth but has provided few details, and the inflationary aspects are expected to evolve over time. His proposal to wind back environmental restrictions that inhibit energy investment is likely to have a mixed impact on oil, as increased supply may put downward pressure on prices but extra demand may absorb this supply.
Other policies are protectionist, such as re-negotiating the North American Free Trade Agreement and applying tariffs and duties on “countries that cheat”. These are considered likely to result in higher US import costs, inflation and lower US exports, even if other countries and China do not retaliate.
The analysts acknowledge policy positions are subject to change but the initial response to a Donald Trump win is likely to mean a lift in the US dollar, given the implications of higher inflation and US interest rates as well as capital inflows. The CBA analysts expect the Australian dollar could decline by up to 10% over a 12-18 month period because of the stronger US dollar and weaker Chinese and Asian economies, with some downward pressure on Australian energy export prices.
There may be some support for the local currency as US-led global equity markets lift, and also as base metal prices are driven higher by stronger US economic growth. The analysts also expect the decline in the Australian dollar will reduce the change of additional official rate reductions from the Reserve Bank. The analysts expect a Trump victory will produce a short-term commodity price reaction and it will probably be treated like a risk event, such as the recent decision by Britain to leave the European Union.
The negative impact on bulk commodities and base metal prices from the proposed 45% lift to the tariff on Chinese imports is likely to be mitigated by China enacting a round of stimulus. With this in mind the commodity price reaction is expected to first be negative and then positive once China responds.
Iron ore will also be more immune, the analysts contend, to the negative consequences of additional tariffs, given US tariffs already exists on some Chinese steel imports. Moreover, there is also the question of how effective tariffs specifically applied to China will be, given the diversity in the global manufacturing supply chain. It is likely tariffs will need to be placed on other countries as well and it is not clear if Donald Trump is willing to take this step.
Analysts at Seeking Alpha believe investors should prepare for more volatility as the election approaches. If Donald Trump wins they expect a broad sell-off, which could be an opportunity to buy those stocks which may benefit from a Trump presidency.
Lower tax rates and the proposed tax holiday for cash parked overseas – US companies hold around US$1.2 trillion in cash abroad – could mean more capital expenditure, mergers & acquisitions, dividends and share repurchases. The analysts expect this to be good for the US stock market in the longer term.
Seeking Alpha analysts expect gold might benefit in the uncertain environment of a Trump victory, with stocks such as SPDR Gold exchange traded fund (ETF) and iShares Gold ETF possibly spiking in the days following the election.
The analysts suggest the promise of a massive reduction in energy red tape via the repeal of the Clean Power Plan and Climate Action Plan could mean support for SPDR Energy Select Services ETF and the VanEck Vectors Coal ETF. Defence companies such as Raytheon and Northrop Grumman should benefit from the proposal to boost defence spending. Biotech stocks which have been under pressure from Hilary Clinton's criticism of drug pricing policies may also rebound on a Trump win, such as the iShares NASDAQ Biotech ETF.
Seeking Alpha analysts agree the plans for infrastructure spending and massive tax cuts would mean a large issuance of Treasuries. Hence US bond yields would rise. Their last word of advice is: Avoid all Mexican stocks and the peso if Donald Trump wins.
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