What President Donald Trump Might Mean for Investment Returns and Investing

• Trump’s unpredictability is likely to lead to greater market volatility.
• Historically, the stock market and the economy have performed better in Democratic administrations than under Republican presidents.
• If enacted, specific Trump policies could have both negative and positive implications for the economy, for corporate profits, and for short-term stock returns.
• Many, but not all, of Trump’s proposals would require Congressional approval. It’s unlikely they would be enacted unchanged.

Background

Several clients have expressed concern about the investment implications of a Donald Trump presidency. This is unusual – this is the fourth presidential election of Sensible Financial^®’s existence, and my first experience of questions like this. I suspect that the distinctive nature of Trump’s candidacy is the primary reason for the change. Many commentators have described Trump as a unique candidate. Pundits and reporters have repeatedly expressed surprise at his success. This brief note attempts to respond to client concerns and questions.

In any presidential campaign, the various candidates provide competing views of the economic and political situation, and of the implications of the policies they propose. In large part, this discussion / argument is what campaigns are about. Each candidate makes the case that, if elected, his or her leadership will make life better. Each candidate attempts to assemble a “coalition” of voters who believe that the candidate’s leadership and policies will be to their advantage. The candidate with the larger coalition wins. Importantly, coalition members often believe that the policies in question will make voters and entities outside of the coalition worse off. It’s especially advantageous for candidates to advocate policies that would (apparently) damage only entities and people who cannot vote, such as corporations, illegal immigrants, and foreign countries.[1]

Candidates’ policy proposals are frequently broad and vague, emphasizing benefits (to attract the votes of those who would gain) and downplaying costs (to minimize the opposition of those who might be damaged or have to pay). Even for very specific policies, detailed evaluation is difficult at best. Very few voters have the time, skill or patience to analyze the proposals, or even to evaluate the analyses conducted by think tanks and other commentators. These analyses are rarely objective anyway – the analysts are often supporters of one candidate or the other.[2]

So, should we expect anything special from Trump?

Trump as a Republican

Before considering Donald Trump as a unique candidate and potentially unique president, it’s worth thinking about him simply as a Republican. Historically, both stock market returns[3]  and economic growth[4]  have been higher in Democratic than in Republican administrations. However, these associations of favorable economic performance with Democratic presidencies seem to have no relationship to presidential policies. In short, if these associations continue to hold, we’d expect lower growth and less exciting stock market performance with Trump as president, but those who have studied the matter are unable to provide any explanation as to why.

We do know that the stock market, expressing the preferences of stock investors, craves stability and predictability. I’ve seen no descriptions of Trump’s persona that include either of these two attributes. Indeed, many observers have remarked that he thrives on his ability to make news. Surprises are news, business as usual is not. Thus, a Trump presidency would likely produce more news and greater stock market volatility than usual.

In summary, based on analysis of previous presidents and presidencies, and what we know about Trump and about the stock market, the most we can say is that market volatility is likely to increase and investment returns may be subpar if he is elected.

Trump’s Policies

But what about his policies? Trump has made numerous dramatic policy proposals. Some reside on his website, others have been widely quoted. Following is a brief list of examples, limited to those which are relatively easy to evaluate:

• Deport all 11 million undocumented immigrants in the United States (widely quoted, not on the website).
• Build a wall between the US and Mexico, and have Mexico pay for it, to reduce illegal immigration across that border (on the website).
• Reduce personal and business income tax rates (on the website). Discussion of budget balance/spending reduction on the website limited to:
  • Vigorously eliminating waste, fraud and abuse in the Federal government
  • Ending redundant government programs
  • Growing the economy to increase tax revenues

So, if enacted, what impact would the three proposals above have?

• Deporting 11 million undocumented immigrants would
  • Be very expensive. The US government (read taxpayers) would have to pay to
    • Hire a lot of people to identify, find, detain, process, and deport each undocumented immigrant.
    • House the detained immigrants between the time of detention to the time of deportation.
    • Transport the immigrants to their home countries.
  • Be very disruptive
    • Moving 11 million people out of their homes and out of the country is a lot of activity
    • Many of the 11 million undocumented immigrants are actually native-born or lawful immigrant children. It’s not clear who would care for them, or how, if their parents were deported.
  • Have uncertain economic impact leaving aside the costs of deportation
    • The economic impact of undocumented immigration is very controversial
    • We do know that financial incentives have drawn many undocumented immigrants here. Many of them have jobs, and earn more here than they would at home. In effect, world economic signals are encouraging them to move.
    • Removing so many people from the population would certainly have a major (probably negative) impact on current employment, economic output, and tax payments and also (probably favorable) on future Social Security, Medicare and Medicaid (via long term care) benefits.
    • There seem to be few current, credible cost / benefit analyses of either the status quo or the envisioned mass deportation.[5] That is, what would those current and future impacts add up to under either regime?
  • This proposal, if enacted, would likely have a negative near-term impact on stock markets
    • Disruption on this scale would be very unpleasant and would likely engender a lot of negative news coverage (think armed round-ups of immigrants, weeping family members, etc.)
    • Deportation of undocumented workers would dissolve their economic arrangements with the US economy, reducing GDP and income and profits for the industries and companies that employ them
    • The long-term economic impact could be significantly positive if some estimates of net costs turn out to be accurate, but it would take a long time to realize
  • Building a wall between the US and Mexico, and having Mexico pay for it, to reduce illegal immigration across that border
    • If Mexico would really pay for the wall, then no cost to US taxpayers
    • It is unclear, however, whether the presence of such a wall would reduce the other costs of managing illegal immigration
      • ICE personnel
      • Monitoring costs (people can still tunnel underneath a wall, or scale it, or perhaps most importantly, overstay their visas)
    • There seems to be no cost / benefit analysis of this proposal – net economic impact very uncertain
  • Reducing personal and business income tax rates while eliminating fraud and abuse and government program redundancy and spurring economic growth
    • One “non-partisan” estimate suggests that the reduction in tax revenue would be very large (about $1 trillion per year). Over 10 years, this would increase Federal government debt by approximately 50% if not offset by spending reductions.
    • The proposed spending reductions and offsetting economic growth are the usual suspects.
    • If the proposal were enacted as is
      • It would likely be a short-term positive for the markets – lower taxes, no less government spending
      • In the long run, it would likely be significantly negative for the economy
        • Reducing the federal government’s capacity to respond to a financial crisis
        • Increasing interest rates on Federal debt

As with any presidential candidate’s proposals, the road to reality is long and uncertain. Any action that requires funding requires Congressional approval. Usually, a good deal of negotiation and deal-making is involved (playing to Trump’s self-professed strengths). Nevertheless, none of these proposals is likely to emerge unchanged.

Secondly, the ultimate impact of a president’s policies and decisions on an economy and the stock market is likely relatively small. The largest effects are due to changes in incentives – tax rates, benefit levels, and the like. Of the three policies we’ve examined, only the tax policy is of that character, but tax policy is enormously complicated from a political perspective. Several Congressional experts have substantial credibility with their colleagues, and interest groups will be, well, very interested in the outcome. I’ll be very surprised if the tax policy that emerges is recognizable as Trump’s.

I’m not going to attempt to address other ideas Trump has floated such as withdrawing from NATO or the WTO and banning Muslim travel to the US, none of which are on the website – the potential economic and stock market impact of these proposals is uncertain at best. I do think it is fair to say that any of them, if enacted, would have significant negative impact on both US and international stock prices, at least in the near term. Global trade and integration are good for stock markets, which are unlikely to respond favorably to moves in the opposite direction.

Trump in Context

Trump is a very polarizing figure. He has loudly proclaimed his concerns about immigrants of various nationalities and religious convictions. He has been called a bigot, a racist, and labelled “unfit to be president.” He is wildly popular with his most ardent supporters, and wildly unpopular with his most vociferous opponents. The latter (see, for example, Larry Summers in the Financial Times) express concerns about the president’s ability to start wars and abrogate treaties without Congressional approval, and the possibility that the unpredictable Mr. Trump might make grievous, irrecoverable errors as President.

As the musical Hamilton reminds us, enormously rancorous partisan politics has been with us since the founding of the Republic. Founding Fathers Hamilton and Jefferson each supported newspapers that said terrible things about the other, and Hamilton contributed directly to his. Republican members of Congress called Franklin Roosevelt a socialist and communistic.[6] Lyndon Johnson ran ads suggesting that Barry Goldwater would start a nuclear war. George H W Bush and his supporters ran television ads suggesting that Michael Dukakis favored releasing convicted murderers so that they could commit more mayhem. I’m not attempting to provide a comprehensive view of political partisanship, but simply to demonstrate that it has a long and lurid history.

The Bottom Line

What would a President Trump really do? No one knows. We can say that while the powers of the President of the United States are enormous, they are nonetheless limited. For example, President Obama has been very frustrated by his inability to make progress on immigration by means of executive orders alone.

I am left to conclude that a Trump presidency would lead to more market volatility, but with unpredictable effects on market direction and level in the near term. After the novelty wears off, I’m doubtful that we’d be able to identify a “Trump effect.” As a (somewhat facetious) example, I’d observe that, despite all the wailing and gnashing of teeth among Republicans, the S&P 500 is up over 140% under President Obama, or about 11% per year. Democrats might similarly wail and gnash under a President Trump, but I’d be more likely to attribute stock market performance to the success or failure of public companies than to the influence of the president.

 

[1]Incidentally, it is this asymmetry that has led to the municipal pension underfunding crisis. Voters and governments that approved the contracts incorporating the pension benefits didn’t pay for them. That left their successors and descendants, who had no vote on the contracts, on the hook.

[2] For example, the Brookings Institution is often associated with the Democratic Party, and the American Enterprise Institute with the Republican Party.

[3] Santa-Clara, P. and R. Valkanov, The Presidential Puzzle: Political Cycles and the Stock Market. The Journal of Finance, 2003. 58(5): p. 1841-1872.

[4] Blinder, A.S. and M.W. Watson, Presidents and the US Economy: An Econometric Exploration. American Economic Review, 2016. 106(4): p. 1015-45.

[5] However, see http://www8.nationalacademies.org/onpinews/newsitem.aspx?RecordID=23550

[6]http://www.politifact.com/truth-o-meter/statements/2009/sep/22/barack-obama/obama-roosevelt-socialist-communist/