As polling day draws near, it is regrettable that the contest to become the 45th President of the United States has been more about personality than policy. The campaign has been distinguished on one side by preposterous promises to suspend the entry of Muslims into the country and build a hard border with Mexico, and on the other by an email scandal and a volte-face on free trade. It is fitting, if depressing, then that Hillary Clinton owes her current poll lead largely to a decade-old tape exposing Donald Trump’s predatory disposition, and not the merits of her policy platform.
Markets expect a Clinton victory. When this magazine went to print on Thursday of last week, they had priced it in, thereby limiting the scope of any rally in the dollar, US Treasuries or the S&P 500 if Trump is indeed defeated. They would prefer it as well. Clinton is seen as the continuity candidate, and unlike her rival, she is measured and diplomatic. She has an encyclopaedic knowledge of policy and boasts at least one day’s political experience.
But four months after the shock Brexit vote, Trump’s chances shouldn’t be written off entirely. As John Redwood, a Brexit-supporting MP and chief global strategist at Charles Stanley, pointed out earlier this month, it is not enough under America’s electoral system to win the largest overall share of the national vote. The victor must also win big in enough swing states that their electors have no option but to support them. Last week, Trump was behind in most of the key states he needs to win. But poll averages showed he was continuing to consolidate the size of his electoral base.
If he does clinch victory, market volatility is guaranteed. Outside the States, few put much store by an economic programme distinguished by unfunded tax cuts. Trump's claim that slashing taxes and tearing up regulation would ensure the cuts paid for themselves with greater economic growth are flimsy at best. Fearing a sharp asset price correction, investors would probably dump the dollar – traditionally a safe haven asset – in favour of other ones. The Japanese yen and the gold price would strengthen as they did following the Brexit vote, predicts Julian Jessop of Capital Economics.
The Federal Reserve would almost certainly hold fire on an anticipated interest rate hike in December. With the Fed funds rate at 0.5 per cent, and the visibly diminishing returns of QE, it is unclear how the Federal Open Markets Committee (FOMC) would respond in the long term.
Outside the States, few put much store by an economic programme distinguished by unfunded tax cuts
US Treasuries may sell off and provide a boon to sterling and the euro. Emerging market currencies would almost certainly suffer, and underperform the dollar. Shortly before the first television debate, when Trump looked more likely to triumph, the Mexican peso hit an all-time low of 19.27 to the dollar. The most liquid of all emerging market currencies, the peso offers a good hedge for global risk, and would bear the brunt of investors’ panic.
Assessing the impact of either candidate on equities, bonds and currencies over the long term is a difficult task. David Lafferty, chief market strategist at Natixis Global Asset Management, has warned investors from second-guessing policy outcomes. “Proposal differences pre-election are always bigger than implementation differences post-election,” he says. “Guessing whether Clinton will be bad for healthcare stocks or Trump will be good for defence [and] military stocks is a poor way to build a durable portfolio.”
A better approach would be to identify where both candidates are committed to broadly similar policies, such as the need for more infrastructure spending, and what exactly can be controlled from the Oval Office alone, without the need for congressional approval. These include free trade agreements, tax on big business (around which a consensus is building) and the Fed, whose complexion the President controls to a large degree.
Not so different, you and I
Both candidates have pledged to increase fiscal spending, which tends to be of benefit to equities because of increased consumer demand. The American Society of Engineers gave the country’s infrastructure a D+ in its most recent assessment and described “a pressing need for modernisation” both to its waterways and roads. Clinton has pledged $275bn in direct spending on infrastructure over five years, and a further $225bn in loans and loan guarantees. Trump has promised to “at least double her numbers” but hasn’t committed to any exact figures. Fixing roads, and particularly America’s crumbling bridges, could boost domestic productivity, and would benefit the suppliers of aggregates and other building materials in the process, as well as industrials firms exposed to the construction sector.
Defence is another common priority, which could play into the hands of aircraft engine producers such as GE and Pratt & Whitney, and even the UK’s BAE Systems, which generated a third of its sales in 2015 through an American subsidiary with privileged access to the market through a special services agreement.
Regional banks could also profit, says Edward Smith, asset allocation strategist at Rathbones. “Both candidates are quite likely to pass legislation to stop Wall Street operating on Main Street.” A change to the Volcker Rule would see Clinton stop commercial banks from being able to invest any of their capital in speculative vehicles such as hedge funds (currently they can invest 3 per cent). She would also impose a risk fee on the largest commercial lenders and empower financial regulators further. Trump has even discussed reinstating the Glass-Steagall Act – Depression-era legislation preventing commercial banks from engaging in the investment business. “If Wall Street is blocked out, regional banks will have a bigger slice of the action,” says Smith.
No more free trade
Clinton’s hostility to any new free trade agreements is a worry, and would represent a sharp break with her husband’s legacy.
In 1994, Bill Clinton ushered in the North American Free Trade Agreement (Nafta), which abolished most tariffs on trade between the US, Canada and Mexico. Between 2005 and 2014, trade with China grew by almost 200 per cent, benefitting America’s automotive, agriculture and aerospace industries particularly. But last year, Hillary turned on the Trans-Pacific Partnership, which she had described while secretary of state as “the gold standard” of trade deals. The Transatlantic Trade and Investment Partnership, which would furnish American exporters with free access to a European market with 500m consumers, would also probably be shelved.
Read more: Is globalisation dying out?
Tariffs never benefit the consumer and any advantages to the producer are temporary. Take the Obama administration’s anti-dumping tariff on Chinese tyres in 2009. Analysis by the Peterson Institute’s Gary Hufbauer and Sean Lowry found that US consumers spent around $1.1bn more on tyres as a result, and only 1,200 more people were employed by America’s tyre manufacturing sector. In effect, $900,000 was being spent for every new job created.
However, Clinton’s reluctance to sign new deals pales in comparison with Trump’s protectionist agenda, which would torpedo existing agreements, such as Nafta, in an effort to revive withering sectors of American industries whose jobs have migrated to Mexico, China and elsewhere. “They’re perhaps reading from the same book, but they’re not on the same page,” says Smith.
Unlike his extreme immigration policy, which would quickly run aground, the Oval Office would provide Trump with the executive muscle to break free trade agreements if he wishes. In a recent paper, Hufbauer says that Trump could withdraw from Nafta within six months of taking office. And laws already on the statute books would allow him to raise tariffs on Mexican and Chinese imports to a certain level, if not the 35 per cent he has promised. According to Smith, there are at least four emergency powers which would allow him to do this, without seeking congressional approval, at least for the first 24 months of his term – enough time to do a lot of damage.
They’re perhaps reading from the same book [on new free trade deals], but they’re not on the same page
If markets think that Trump may deliver on his “seven point plan to rebuild the American economy by fighting for free trade [sic]”, by labelling China a currency manipulator and bringing trade cases against it, it would, ironically, bring instability back to Chinese financial markets, says Derek Halpenny, European head of global market research at MUFG Securities. “If Trump won and the Chinese authorities were forced to stop managing foreign exchange as they are doing, the yuan would be devalued,” he says. “There would be an immediate effect on the dollar in Asia and a lot of Asian currencies would probably depreciate in sympathy.”
Higher tariffs could start a trade war. “Once a tariff has been imposed on a country’s exports, it is in that country’s best interest to retaliate, and when it does, both countries end up worse off,” wrote IMF economists in its most recent World Economic Outlook.
Worryingly for investors, China holds around $1.2 trillion in US government debt, and experts have suggested that it could dump hundred of billions of Treasuries in retaliation to higher tariffs, sending yields soaring. Smith thinks this kind of fire sale is unlikely, as the monetary policy shock it would have on the yuan might undermine the currency’s status as a credible reserve fiat for global investors.
Rather than try to second guess the sectors where Trump would raise tariffs, Rathbones recently assessed those which are most susceptible to the type of broad economic shock which could result from greater protectionism under Trump. Three criteria were used – susceptibility to US economic uncertainty, sensitivity to the country’s business cycle and the percentage of total revenues generated in China. Those found to be most vulnerable were the automotive and parts industry, tech hardware, general industrials, and electrical and electronic equipment. The UK’s life insurance sector may also be vulnerable.
Once a tariff has been imposed on a country’s exports, it is in that country’s best interest to retaliate
When you factor in the impact of supply chain disruption to American businesses reliant on imported parts from China and cheap labour in Mexico, and the overall effect on productivity could be deleterious for the equity returns of companies in many other areas of the economy.
The sectors found to be most resistant to protectionism – healthcare equipment and services, electricity and food and drug retail – all have price-to-earning ratio averages way above the S&P 500’s as a whole. Trump-proofing your portfolio may not come cheap.
Tax is where the two candidates really diverge. Analysis from the Urban-Brookings Tax Policy Centre has found that Trump’s tax cut for the rich would cost $6.2 trillion over a decade. Clinton’s increase in estate taxes among others would raise $1.4 trillion over the same period.
Not all Trump’s policies would be disastrous for investors. Wall Street has welcomed his plan for a tax holiday on repatriated profits, for example.
It is believed that US multinationals are keeping some $2.5 trillion in corporate earnings overseas, and indefinitely deferring the payment tax on them as a way to protect their bottom line. At 35 per cent, America has the highest rate of corporation tax in the developed world. Trump would allow some of the S&P 500’s largest companies to book their existing profits at home for a 10 per cent levy.
Analysis of public disclosures show that Apple is holding around $214bn, Microsoft $108bn, Cisco Systems $57bn and Alphabet $45bn in offshore profits, Citigroup’s chief US equity strategist Tobias Levkovich said in July. These companies could use the extra cash for dividends, share repurchases, mergers and acquisitions, capital expenditure and to pay down debt, Strategas suggested in August.
His rival has not said explicitly that she would do the same. But in 2004, when the Senate last held a vote on a tax holiday, Clinton voted in favour of it. Moreover, Clinton has yet to outline exactly how her infrastructure spending plan would be funded, saying only that she would “fully pay for these improvements through business tax reform.”
At 35 per cent, America has the highest rate of corporation tax in the developed world
This could be good for the greenback. Halpenny notes that the dollar rose 12.7 per cent in 2005, though this might also owe to a movement by the Fed in the same year. However, Trump has said that his repatriation holiday would be indefinite, so any positive effect on the dollar might not be so immediate or pronounced.
Corporation tax is also likely to come down. Trump would slash it from 35 per cent to 15 per cent, Clinton has yet to show her hand, but Obama has backed its reduction to 28 per cent. “Room for compromise could be found on the corporate tax reform issue, given bipartisan support for the idea,” wrote Bill Papadakis of the investment strategy team for private banking at Lombard Odier.
The Federal Reserve
The impact for the Fed is another point of divergence. Having accused its chair, Janet Yellen, of keeping rates low for “political” reasons, she would likely resign if Trump won, enabling him to appoint a more hawkish replacement, though Congress would have the final say. Clinton, meanwhile, has criticised Trump for infringing on the institution’s independence. “She believes, it seems, that the governors at the Fed, whether chosen by her predecessor or herself, should have complete freedom to continue pursuing their radical monetary policies unopposed and surely unaudited,” said Brendan Brown, also of MUFG Securities. Low interest rates, cheap borrowing and asset price inflation would presumably persist.
Fed vice chair Stanley Fischer’s comments to the New York Economic Club last week gave an indication of the stance of a Fed under Clinton, argues Brown: “The evidence so far does not suggest a heightened threat of financial instability in the post-financial-crisis USA stemming from ultra-low interest rates.” The FOMC’s most dovish member, Lael Brainard, is tipped for treasury secretary under Clinton, and has even donated to her campaign.
The continuity candidate?
Assuming Clinton wins, she could quickly step out from Obama’s shadow.
It is difficult to know how deep her anti free-trade instincts really run, or whether her rhetoric is just a sop to the caucuses of leading left-wingers Bernie Sanders and Elizabeth Warren. Her hawkishness, particularly towards China and its operations in the South China Sea, could affect trade relations with the country. Brown sees her as willing to tolerate America’s “crony capitalist” relationship with the world’s largest emerging economy, as it suits America to keep the yuan high. Markets may have to wait to see who is appointed as secretary of state to get a clearer picture of foreign policy under a Clinton administration.
Far from freeing Clinton to pursue her own policies, a sweep for the Democrats in the Senate and the House could drag her to the left, ramping up regulation and guaranteeing a stricter tax regime. As such, a split government with Republicans retaining control of Congress may be the most desirable outcome. A divided Republican party will need to heal its wounds quickly.
Over the last 15 months, what Clinton thinks and says have probably been two different things. If she wins, the questions will be: what does she really want, and what will she be able to do?
This article appears in the upcoming edition of Money magazine, which will be distributed free with the paper on Thursday 27 October.