I have been thinking about the possibility of a Donald Trump upset ever since I made a bet with a friend about the election outcome a month ago. This was really a game-theory exercise as, at the time, it appeared that Hillary Clinton was going to win the electoral college easily. At least, that’s how it looked before FBI Director James Comey’s October email surprise.
I lost the bet.
Pundits will discuss the political ramifications of this upset endlessly. I want to talk about the economic and market implications of complex events.
I have good news and bad news for you. Let’s cut to the chase and say that on balance, this election is far less significant to your assets and portfolios than most people imagine, especially when they are in a political state of mind. However, there are still surprises to come, along with increased volatility. You can expect a bumpy ride for a few weeks.
With that in mind, the bad news: The simple truth is we have no idea what sort of policies a Trump administration will adopt. Trump has been all over the map on nearly every issue, so there is not a lot to guide us. The word “uncertainty” is an overused, lazy crutch among analysts, but in this case, it really is a blank slate. Were his harshest statements (building a wall, banning Muslims, deporting 11 million immigrants, etc.) policy prescriptions or overheated campaign rhetoric? Trump received fewer votes than Mitt Romney did in 2012, and fewer than Hillary Clinton did on Tuesday. He actually lost the popular vote. Can he claim a mandate on that basis? How much will tea party Republicans in Congress act as a check on his more expensive legislative goals?
We do not know. There is also a high degree of uncertainty about changes that may be coming in the new government involving immigration, trade, the Federal Reserve, fiscal stimulus, military spending, the Supreme Court, health care, deregulation, international relations and climate change.
Given these unknowns, as results began to trickle in early Tuesday evening and Clinton’s blue “firewall” began to crumble, overseas markets turned deeply negative. Asia sold off by 5 percent, U.S. futures were down by 800 points and gold surged. It was a knee-jerk response. After Trump’s victory speech — the most coherent and inclusive speech of the campaign — markets calmed a bit. And even though U.S. stocks opened down, they reversed and rallied all day. (Thursday, too). That was President-elect Trump’s first lesson: What he says affects the markets in a bigly way, and we should have no doubt that market volatility may increase significantly (at least a short-term) as he figures this out.
With one party controlling all three branches of government, three significant investment-related Trump policies are likely to be implemented with lasting effects for your portfolios:
● Significant tax cuts for corporations and individuals.
● Infrastructure build-out.
● Higher deficit spending.
The tax cuts and deficits that have been discussed sound similar to the George W. Bush economic plan. Note that they are being introduced at a very different phase of the market cycle. Bush took office as the dot-com collapse was occurring; Trump will be sworn in eight years after the financial crisis. The effects are likely to be very different.
Expect the initial market reaction to be temporary. Markets will soon shake off the news and go about doing what they do best: discounting future earnings and cash flows to determine the value of corporations.
When we look at other unexpected historical geopolitical events — genuine shocks such as the attack on Pearl Harbor, the assassination of John F. Kennedy, the resignation of Richard M. Nixon, the Sept. 11, 2001, terrorist attacks, Standard & Poor’s downgrading of America’s debt rating in 2011 — there is a pattern that plays out over and over.
Markets wobble as traders react emotionally. Often, there is a panicked sell-off that goes too far. This is followed by a rally to a level not quite as high as where the sell-off began, with attendant minor feints and parries. Eventually cooler heads prevail, and the market returns to whatever it was doing before the surprise event. Technically, we describe these stages as reaction, counter-reaction and resumption of prior trend.
Markets were already selling off before 9/11; after the wobble, they resumed that downward trend. The pattern held true after the Pearl Harbor attack — it came in the midst of a sell-off, with stocks down 30 percent from their 1938 highs. They fell an additional 20 percent before hitting bottom the next year. Markets were in a clear uptrend before the Kennedy assassination; they wobbled, then went back to rally mode. Nixon’s resignation too: Markets had peaked in early 1973 and were off 31 percent from the highs by the time Nixon resigned; they then fell an additional 22 percent before hitting a post-crash low.
Here’s the truth: Economies and markets are just so much bigger than elected officials and campaigns. The United States has a $17 trillion economy. The day after the election, every person in America — whether thrilled or disappointed by the election — got up and went through their usual morning routine: They brushed their teeth, went for a jog, showered, had coffee, ate breakfast, read the paper or Twitter or Facebook, got the kids dressed and sent them off to school, and then went to work. They lived their lives. And every single thing I just mentioned costs money. People spent money on goods and services provided by other people doing their jobs. Those mundane routines of daily life amount to that $17 trillion a year.
That is why the economy has always been larger than any of those huge geopolitical events. Massive media events take up huge mindshare, but economically they are not very significant.
Which leads to the good news. We have been in a long bull market, which, depending on your theory of markets, dates to either the March 2009 lows or the breakout above 2007 levels in 2013. The economy is expanding, wages are finally rising, unemployment is under 5 percent and corporate earnings are still going up.
But I would be remiss if I didn’t mention possible setbacks ahead to the social progress made in the past eight years. I have noticed the concerns many of you express on Twitter and Facebook and in emails. My suggestion is this: Consider how you might use a Trump tax cut to follow your conscience and promote social issues you care deeply about. Just because your side lost doesn’t mean the country has to go backward.
As to your investments, remember this: It is a staple of every presentation I give, and it was the subject of the very first column I wrote for the Washington Post: “Politics and investing don’t mix.”
That was never truer than it is today.
Ritholtz is chief investment officer of Ritholtz Wealth Management. On Twitter: @Ritholtz.