One week / one topic: Four more years

What happened?

Today, Donald Trump officially starts his second, non-consecutive term as US president.

As usual, markets in their forward-looking nature have discounted expected future developments with significant moves over the past ~3 months in line with his political ascendance:

• US stocks ripped higher on election day, yet we have not seen a protracted rally since;

• Government bond yields kept rising, but subsequently traded much more in line with macro data releases and policymaker comments – as they ‘normally’ tend to do;

• The Dollar kept climbing higher and higher.

However, sentiment and positioning data actually do not show investors being all in on the ‘Trump trade / US exceptionalism’ bandwagon.

As he famously cares very much about the stock market and sees it as a report card on his presidency, expectations of an ‘executive put’ seem reasonable – but how to price it accordingly?

Ultimately, Inauguration Day looks likely to deliver plenty of headlines and – as per the positioning data above – investors seem to be in wait-and-see mode.

Reportedly, Trump has prepared 100 executive orders to launch a shock-and-awe campaign on border security and deportations on day one.

But what can we expect in terms of market-moving announcements?

(Aside for memecoins, that is…)

Our observations

• Fundamentals: While bonds keep getting cheaper amid a lot of supply, headwinds remain in place for (US) equities to appreciate further – especially in the context of multiples that are already quite extended.

• Price action: Over the last month, European equities have outperformed the S&P by ~5% in local currency terms. Indeed, expect the unexpected…

• Investor beliefs: The threat of tariffs is a clear cause for concern among investors, yet it doesn’t seem to be fully priced in yet.

So what?

Despite our intermittent tendency for self-delusion at the ballot box (‘He/she alone can fix it!’), policymakers ultimately face hard constraints in terms of what they can or cannot do. (h/t Marko)

Therefore, given the high likelihood of lots of noise in the coming days – remember the randomly-timed tweets of Trump’s first term? – we want to step back and (re-)assess the backdrop.

With that in mind, we can observe that while ~5% yields make risk-free US Treasuries look competitive vs (expensive) equities, bond supply is also plentiful at the moment and unlikely to abate anytime soon.

Additionally, China has actually been buying fewer and fewer USTs for almost a decade now. As it is busy trying to escape a deflationary trap and getting ready for another trade war, this also seems unlikely to change in the near future.

If the above implies a floor for yields – absent of course a meaningful shock, which is one of the main reasons you want to own high-quality government bonds in the first place – there are of course wide implications for other asset classes.

While stocks can indeed go up in a period of rising rates – the SPX was up 606% from 1946 to 1981, despite US 10yr yields climbing from 1.7% to 15.8% over that period – they have recently struggled to digest rapid increases in rates.

Additionally, the trade-weighted Dollar index sits at 40-year highs and the chances of anything resembling the Plaza Accord look very slim.

Putting it all together, the incoming US president faces powerful constraints in his desire to juice financial market returns due to very expensive equity valuations, rising bond yields (and supply), and a very strong currency.

Maybe the art of the deal will be enough, also given solid fundamentals for the US economy? The jury is out…

Meanwhile, we remain invested across the board with a preference for diversification at the portfolio level (i.e. owning govies) and also mitigating very high levels of US concentration by holding positions across other equity markets as well.

Mood music: Hail to the Chief – US Marine band