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14 Nov Election Tea Leaves

A global grass roots political upheaval is spreading. Brazil has ousted its president and Venezuela is an inch away. Brexit was a core “no more” vote against immigration. The U.S. was a surprise double header with Republicans taking both the White House and the Congress. France seems certain to change and even Mrs. Merkel is under attack. A growing faction of the democratic electorate feel disenfranchised and restive with their governments’ policies either making inroads on their everyday lives or leaving them economically disadvantaged. Well intentioned legislation such as health care for the poor or regional trade agreements are viewed as being poorly planned and executed, or damaging to jobs. Government is seen as exercising excessive power and not understanding the consequences. Voters are drawing a line in the sand and ousting those in power or rejecting anointed successors.

Since World War II there have been 18 U.S. presidential elections. Each has had its unique characteristics although often economic conditions or international problems were the controlling determinants. The 2016 election was an outlier as unemployment and inflation were low and we only had an arms’ length involvement in the Middle East. The candidates personalities and backgrounds were the focal points and issues seemed an afterthought. In some respects, there were similarities to the 1980 Jimmy Carter – Ronald Reagan campaign. Carter was pro government while Reagan was anti-government and wanted to reduce taxes. Reagan was a much different personality than Trump but they shared a belief in the Laffer curve (cut taxes and the GDP will grow faster) and the need to build defense. Reagan won by a big margin but interestingly his critics viewed him as a mediocre actor and not fit to be president. The dollar started a sharp long term advance the day he was elected. Tax cuts were enacted in 1981 and the stock market which had been suffering from inflation, high interest rates, and a recession jumped in August 1982 on its way to a multi-year advance.

Rarely has the country elected a President like Trump with strong controversial positions on several key issues. However, it should be remembered politics has long been characterized as “the art of compromise”. The President Elect has a challenge in front of him to deal with a Republican Congress that has many disparate views and priorities. They are generally on the same page regarding corporate tax reduction, changing Obama care, supporting infrastructure spending, bolstering military outlays, revising Dodd-Frank, reducing government regulation, and appointing conservatives to the Supreme Court. Less clear is their willingness and ability to resolve multi-faceted perspectives on immigration, trade, climate, entitlements and personal taxes and picking up some Democratic support along the way.

In the three trading sessions following November 8, the market has already voted for higher interest rates, less bank reform, higher infrastructure spending, more military support, lower corporate taxes, reduced penalties for recouping corporate cash abroad, reducing payments for hospital services and no price controls on drugs. Higher interest costs will certainly hurt the federal budget. Even the advocates for tax cuts acknowledge the deficit will grow in the first few years. The tidal shift from stocks to bonds looks to be over. The S&P 500 effective tax rate is expected to decline from 27% to 20% which would put 2017 earnings at about $133.00 per share if the rate was in place for the year. Early predictions are for the change to occur mid-year. However, the market rarely awards higher valuations for one time tax declines and especially when they are accompanied with higher interest rates. Higher stock index prices clearly rest on better economic growth. New opportunities will be best found in the shifting landscape among sectors and industries.

19 Sep The Opposite

Buy low sell high, it sounds simple enough but most investors avoid this anxiety ridden route at all costs.  Indeed, stocks are the one purchase item on the planet that buyers feel happier paying more for than less.  Such a paradox pervades global financial markets of every stripe.  Investors the world over continue to pile into bonds trading at all-time, never seen before, negative interest rates.  Utilities, which offer relatively zero underlying growth have been the shining stars of this year’s equity market.  Real Estate prices continue to rocket in London despite relentless warnings of Brexit fallout and it remains cheaper for me to fill my car with gas than my fridge with water. 

These trends are not new, in fact they have been stubbornly the conundrum of financial markets for what feels like an age.  Such persistence has led many to abandon time honored investment disciplines as if the world truly has turned on its axis.  At C.J. Lawrence we enjoy the benefit of a library of investment history that dates back well over a century and principals that while not stretching back that far have navigated more cycles than most.  To satisfy the regulators we avoid making explicit recommendations in our published work but with the weight of history behind us we can make bold predictions that are obvious but do not appear to be consensus.  Ready: Interest rates are going to rise, energy prices will recover, economic growth will return to trend (likely higher for periods of time) and real estate yields will normalize i.e. increase.  Of all of these events we are certain but time is the cruelest adversary and it is easy to go broke waiting to be right.  However, we do suggest that we are closer to the end than the beginning of these trends and their turn will be monumental for asset prices. 

So with a nod to George Costanza; investors who are frustrated and scared about global growth, fed policy, the upcoming election would be wise to bear hug fundamentals and survey what would happen should they take the opposing point of view that bonds prices look highly vulnerable at these levels, utilities are trading at unsustainable multiples, energy supply will be engulfed by demand in the coming years and should GDP increase to trend (3%) the stock market is going materially higher.  We may continue on the same course for some time to come but the end of this particular low growth, low inflation, zero interest rate, zero earnings growth road will come and you had better make sure you are positioned for the right road when we reach that intersection.  Time tested investment principals will reemerge and those investments that present true growth for the right price will always prevail in the long-term. 


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