From “Trump Dump” to “Trump Rally”

Article #460 by Edward Rizzo - Published Published Articles

During the hard-fought US presidential campaign, many financial journalists and investment bankers published their expected reaction across global financial markets in the event of either a Republican or a Democratic win.

Up until a few days before the election on 8 November, many financial journalists actually titled their articles: “Markets set to plunge if Trump wins” and “The Trump Dump”.

There was widespread consensus that a victory for Republican Donald Trump would create global economic uncertainty and send equity markets into turmoil, while the US Dollar would weaken significantly and bond prices will rise. On the other hand, a victory for Hilary Clinton was viewed as positive both for equities and the US Dollar and negative for bonds as the Federal Reserve would commence lifting interest rates periodically. In fact, in the run-up to the election, equity indices rose upon indications that Hilary Clinton was ahead in the polls and fell when Donald Trump began to close the gap. Indeed, on Monday 7 November (the day before the election), the Dow Jones Industrial Average index registered its best performance in eight months after the FBI cleared Hilary Clinton from a second investigation into the use of her private email server when she was secretary of state.

During the early hours of Wednesday morning as it became clear that Donald Trump could indeed make it to the White House contrary to what many pollsters were predicting, the Japanese equity market (which was open at the time) plunged by 6%, the US Dollar weakened to 1.13 versus the euro and the indications were that European and US equity markets were expected to drop by between 4% to 5% at the open. The main headlines across financial journals in the very early hours of Wednesday morning were “Dow Futures dive 800 points on election jitters”; “S&P 500 futures plunge 5%”.

Then, shortly before European markets opened on Wednesday, yields across the Eurozone weakened significantly (the ten-year benchmark German Bund yield tumbled to 0.093% from 0.188% on Tuesday), indicating an uplift in bond prices. The markets were at that point reflecting what the vast majority of financial analysts were anticipating.

However, as Hilary Clinton conceded defeat and Donald Trump delivered his victory speech in a very conciliatory tone and void of any absurd policies that he had mentioned during his campaign, there was a sudden turn of events across global financial markets. The speech by the President-elect reassured the markets that he would cut personal and corporate taxes and spend billions of dollars on boosting the country’s infrastructure.

Although European equity markets opened lower as expected, they quickly recovered and staged an astonishing recovery to close the day sharply higher. By way of example, Germany’s DAX opened 2.9% lower before rallying to end the day 1.6% above Tuesday’s close. Meanwhile, the US Dollar began to strengthen once again while bond prices dropped as yields rose across the globe.

This sudden reversal caught many market observers wrong-footed. One of the most plausible reasons that was cited was that the result of the 2016 Presidential election was in line with historical norms as a clear winner emerged, the loser conceded, and the President gave the customary unity speech. Following a very divisive campaign, positive sentiment returned as high ranking officials within the Republican party who had differing views from Donald Trump during the campaign showed signs of support for him following his electoral success.

The pledges by the President-elect to cut taxes and deliver a package of infrastructure spending raised hopes of faster economic growth and higher corporate profits. However, although the main headlines across the world highlighted the Trump rally as equity markets raced higher and the Dow Jones Industrial Average hit new record levels, share price performances differed. In fact, while some companies saw their share prices rally strongly others performed poorly.

Speculation that the President-elect could ease regulation on banks sent bank shares soaring across the world. In the US, the share prices of all the main banks performed very positively last week. In Europe, Deutsche Bank was among the best performers last week with a share price rise of 20% followed by UBS with a rise of 17%. The focus by the President-elect on overhauling the country’s infrastructure helped boost the share prices of mining and construction companies. Furthermore, healthcare and pharmaceutical companies also performed positively following the US election result as these companies are expected to benefit from reduced regulatory scrutiny and stronger pricing power.

On the other hand, the share prices of companies doing business in Mexico were among the biggest losers. During his campaign, the President-elect argued the need to renegotiate or withdraw from the North American Free Trade Agreement between the US, Mexico and Canada and to build a wall along the US-Mexican border. Many car companies have factories in Mexico due to lower labour costs and as a result, the share prices of companies such as Daimler, BMW and Fiat Chrysler all weakened on Wednesday. Moreover, one of the worst performers in the UK was the fructose manufacturer Tate & Lyle. Its share price dropped by more than 11% on Wednesday due to the fact that the company generates about 10% of its profits from Mexico.

Gold, which was widely viewed as one of the assets to own in the event of a Trump victory, also tumbled sharply.

Perhaps, the most surprising development was in the international bond markets. In anticipation of a significant rise in spending by the US Government which will lead to higher debt levels and inflation in the US, yields across the world rallied. In the US, the yield on the 10-year Treasury rose to 2.24% - the highest level since January 2016 and up from 1.86% shortly before the US election. In UK, the 10-year gilt yield jumped to 1.43% from an all-time low of 0.53% in August in the aftermath of the Brexit referendum. In Germany, the 10-year Bund yield rallied up to +0.40% last Monday 14 November compared to a low of -0.20% on 28 September.

Few would have expected such a sudden turn of events for bond markets. As a result of the rally in yields across Europe, the Malta Government Stock market was also heavily impacted. In various articles over recent years, I documented how developments across international markets also affect the Malta Government Stock market. The surge in yields across the Eurozone rocked the MGS market on Friday and prices declined significantly with some individual bonds dropping as much as 4 percentage points (400 basis points). As indicated in some of my earlier articles, the prices of longer-term bonds are the most vulnerable to rising yields. This was also evident in Malta as the steepest declines were those of the longer-dated MGS while the short and medium term MGS suffered much lower declines.

Although many investors may be shocked at the sudden decrease in MGS prices of Friday 11 November and Monday 14 November, it is worth noting that a number of the longer-dated bonds merely shed the gains recorded in recent months arising from the sudden downturn in yields following the Brexit referendum. As such, investors should remain aware that some of the strong gains in a number of MGS’s are very much still intact. The sudden turn of events is also another reminder that timing the opportune moment to sell out is impossible even for the most seasoned investors.

Whilst the immediate reaction across equity, bond and currency markets has been remarkable and indeed contrary to what most analysts predicted, the actual policies that will eventually be implemented by Donald Trump are not yet clear. There remain several high ranking officials within the Republican party who do not share the same radical views as the President-elect. This alone is likely to create lots of uncertainty in the weeks and months ahead. Meanwhile, the market’s focus will turn towards the referendum in Italy on 4 December, the European Central Bank meeting scheduled for 8 December and the US Federal Reserve meeting on 14 December. These are likely to be very important events for investors with a wide-ranging impact across all asset classes.

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