Investing in the Age of Trump

[11/12/17: Please also see the 6-Month follow-up to this article!]

As retirement draws near, I have to be more thoughtful about how I invest my admittedly modest savings, and the election of Donald Trump has made this very complicated, to understate a bit. Like most leftists, I believe that his campaign promises will damage the American economy in the long run, by overheating the economy, and then bringing in a popped-bubble recession. However, it is clear that the stock market totally disagrees with me. The Dow Jones Industrial Average, for instance, has skyrocketed from around 18,000 in early November to around 21,000 today.

If that sounds like a ringing endorsement of his promise to “make America great again”, however, we need to also consider the fact that the price of safe havens like gold and Treasury bonds have recovered much of the initial crash after the election.

This means that there is a bit of a split-personality going on in the market. Like the rest of the nation, Wall Street is also divided along partisan lines in their assessment of the future.

So, how is a middle-class soon-to-retire professional to cope?

I have asked one of my more level-headed lefty friends, also nearing retirement, and wealthier than me, to tell me what to do, and this is what they sent me a couple of months ago. Since I have found it helpful, I am posting it here, with some updates and corrections they wanted to make, to reflect recent events and data.


Investing in the Age of Trump

by anonymous

Trump’s seeming inability to quickly implement the major components of his economic agenda–tax reform, infrastructure spending, and health care reform–that the pro-Trump half of the market is betting on is a big source of complication. From the anti-Trump perspective, in the long run, this is a good thing, since he won’t be able to wreck the economy that quickly. From the pro-Trump perspective, however, in the short run, all of these promises have already been priced into the market. If he fails to deliver soon, the short attention span of the market will turn against him, and this will not be good for the economy as a whole, whether you are for him or against him.

To be sure, we can’t go all-in that he’s going to succeed, and we can’t go all-in that he’s going to fail. A good anti-Trump portfolio has to take a balanced approach. In other words, if you haven’t diversified, now is the time.

Here are the possible scenarios we need to prepare for.

Scenario #1: Trump delivers on his promises.

In the long run, reckless tax cutting and deregulation will lead to a bubble and crash the economy, but, in the short run, this will be a good thing for the stock market. Now, it should be noted that Trump probably won’t deliver on all of his promises. That means my investment moves need to depend on promises that he is the most likely to keep.

Bear in mind that much of the stock market’s momentum builds on Obama-era policies that have kept the economy on an even keel, and most of the excitement now is that tax cuts will allow people to cash in on the broad-based progress that has already been made. By contrast, in the longer-run, tax cuts, which will result in higher interest rates and inflation in the medium-run, will have a narrower impact on the economy, favoring some sectors over others. Same goes with deregulation, since some sectors are more restrained by regulation than others.

The primary winner will be the financial sector, which indeed has seen the greatest increase in stock price since Trump’s election. If any one of the promises—lower taxes, higher interest rates, and deregulation–comes through, the run up so far in their stock prices will be solidly justified. More than one of these promises delivered will mean even more gains in the future, which seems like a good bet. I am now holding about 15% of my assets in financials.

Another possible winner is the energy sector. This is a mixed bag, as Trump’s promised policies will, if anything, likely lower the price of energy raw materials, which is not going to be good for energy stocks. Of course, it is fairly well established that, short of open warfare, Presidents have very little control over energy prices, and the trendline seems to be that energy prices, especially oil, will be stuck where it is now for a while. Regardless, deregulation will allow energy companies to make decent profits even with low commodity prices. This could be a boon even for the green-energy sector, as hostile as Trump is to climate change control. Simplifying land-use regulations, and those pesky endangered species considerations, could help further installations of green-energy projects, which, ironically, are more popular and feasible in states that have voted for Trump. I am holding about 5% of my assets in energy and utilities, including some green stocks.

Infrastructure is even more tricky. It is highly unlikely that Trump will deliver on the one-trillion-dollar infrastructure pledge, especially if tax cuts and health care reform result in less revenue. Again, deregulation, which is the one thing Trump can deliver, is the more likely avenue for growth. People might not have more money to build with, but they will have more flexibility on how to build. That means companies supplying raw materials for infrastructure and companies that do planning and logistics are a better bet than construction companies or equipment manufacturers. I have about 2-3% in non-energy infrastructure, reflecting my small-ish faith in this sector.

The automobile industry, on the other hand, looks to be a big loser if Trump delivers on his promises. Deregulation will help some, but Trump’s rhetoric on trade–whether he delivers or not–is going to discourage automobile companies to seek cost-cutting measures they desperately need, especially given that the new car market is reaching a saturation point. Higher interest rate and inflation will depress auto sales as well. Deregulation is also likely to help Japanese companies with factories in the red states more than US companies with factories in the US, Mexico, and Canada. I have some long-hold stock in auto, maybe 1-2% of my assets, that I’m keeping, but I won’t be adding any until Trump clearly fails to deliver on his trade policy promises.

Same goes with industrials and consumer products, who will suffer with high interest rates and inflation, except maybe luxury goods. There is little room for stimulation with tax cuts for lower-income people. Any stimulation from tax cuts will have to be focused on the higher-income people, and high interest rates and inflation will also squeeze lower-income people more than higher-income people. That means more luxury goods–think Tesla and Coach–rather than consumer staples–think Altria and General Mills–will benefit at first. I do not have any assets in this class, because I find luxury goods sector too unpredictable. If Trump fails to deliver on his promises, or if the economy starts to tank, I will likely go with low-brow consumer staples and industrials.

I have some real estate and healthcare holdings I’ve bought previously and am holding, maybe 5% of my holdings, but I would not add any at this time. Healthcare stocks have largely recovered from the AHCA fiasco, but continued uncertainty over AHCA is a negative for me, although I am bullish in the very-long-term for healthcare. Real estate has been in the doldrums because of the interest rate fears. Tax reform can wreck it, too, although I doubt that Trump can get rid of mortgage deductions. I would wait to get in until some of the uncertainty shakes out. If/when there’s a recession, healthcare and real estate are definite buys.

Scenario #2: Trump wrecks the economy

Again, it will take at least a year before Trump’s policies–or inaction–have a significant impact on the economy as a whole. Until then, it will be sailing along on Obama-fumes. There is no need to panic.

But when will it be time to panic? It’s not clear. If all of his policies go into effect, the economy will tank, but that’s at least two or three years out. We will see a big boom before the big bust. Remember that the Reagan- and Bush-era booms lasted for several years before crashing. I wouldn’t move on either side of this until some Trump policies actually get implemented.

The main medium-term danger is not so much Trump’s policies being bad for the economy, but the dashed hopes if Trump should fail to deliver soon enough. Remember that the stock market runs on quarters. Stock prices go up not because they expect the economy to grow for the next three years, but because they expect corporate profits to hold for the next three months. Tax cycles run by years, so tax cut expectation will fuel the market a little longer, but, if there is no movement on tax reform, say, by September, expect about 5-10% loss in the market.

And bear in mind that, even before Trump’s election, U.S. stocks were on the historically expensive side. Now it is even more overvalued, so any sustained hesitations in the labor market, consumer spending, or GDP growth can spook the market by 5-10%.

So far, the market has shrugged off most of Trump’s manufactured crises, contradictory economic news, and international tensions because of one reason: corporate profits are holding, again thanks to the fumes of Obama-stability-market. If this expectation starts to erode, there will be a spooking of the market.

My preparation for these eventualities are two-fold. First, allocate a bigger chunk into safe havens. I am about 30% in cash, gold, Treasury bonds, and blue-chip corporate bonds. This is somewhat excessive, and I did jump in too early, reflecting my ideological bias, but it stems from my belief, rooted in fundamentals, that the market is overbought and there will be a correction soon. Betting that the economy will completely crash is foolish, and trying to time this crash will be a disaster. By contrast, expecting some “awakening” in the near future seems reasonable. I don’t expect safe havens to go up any further, but they will keep their value.

Second, focus on firms whose future will not be too swayed by Trump’s policies. These are companies in which I have invested for a long time, and show no sign of catastrophic slow down even in recessions. In fact, even if they lose 20% or so in their value in the next recession, I can count on them rebounding. Most of them are “infrastructure technology” companies, and I have about 30% of my assets in these companies. Bear in mind that these are not your typical blue-chip pillars of the economy, and they do not have much room to grow, but they are medium and large companies that are pretty boring and chugs away steadily. Think “What would Warren Buffett by?”

Defense, for instance. Trump is promising increased defense spending, and this is one area he has already delivered. If he starts a war, too, life will be good for defense stocks. Still, it is not clear that Trump will be as into gadgetry and protracted warfare as, say, George W. Bush was, so this is not a sure thing. Trump seems to be more of a personnel guy. I do have some defense-connected holdings, maybe 3%. This is not how I like to make money, so it’s a hold, but it seems like a solid sector no matter what Trump does.

Other than oil, gold, and silver, I’m staying out of commodities and commodities producers. In fact, I’m regretting having gotten into silver. Commodities have been in a confused mess for years, and will crash further if the economy tanks, with no guarantee that it will go up if the economy picks up.

It is ironic that I’m the most bearish about mining, manufacturing, and agriculture, the very sectors where Trump have gotten a lot of popular support. My view is that there is little that Trump can do for them, even with best intentions and effort. Specific sectors, like auto and specialty agriculture, he could help, but he’s not moving in the right direction. Overall, he has a greater potential to make things worse for his supporters. If the economy crashes, these are the sectors that will burn the most. By contrast, financials, defense, and energy distribution, removed from the realities of his base, I’m moderately bullish on regardless of his success or failure. Infrastructure, too, I’m bearish on the labor side, bullish on the materials side.

Scenario #3: Trump achieves little

This is actually the most likely scenario, I think, in the long run. There is no point any more in speculating whether Trump will grow into the job or grow up or figure out how to operate the levers of government. The timing and manner of FBI Director Comey’s firing is illustrative of this: even the most charitable interpretation of events, at least from my liberal perspective, is that he just randomly, impulsively does things, consequences be damned. This is going to keep GOP lawmakers on their toes, having to deal with every distraction, generally unable to get much done, which is also illustrated by the healthcare circus.

Typically, the market likes government inaction. If the government does little, all the rules and regulations stay put, and they can do what they do best, which is to take advantage of every loophole they can find.

However, the market, typically, dislikes government chaos. Predictability is the name of the game, and one can’t predict much with a random President at the helm.

That means, again, the opposing forces of inaction and chaos will cancel each other out, with periodic random disturbances followed by periods of stability. In fact, there have been many mini-crashes since Trump took office, and the market has more-or-less recovered from every one of them.

In other words, it’s time to “buy the rumor, sell the news”. Director Comey fired and market tanks? Buy. Market eventually shrugs it off and returns to normal? Sell.

This used to be my favorite way to invest. In fact, most of my long-term winners were initially purchased during news-triggered mini crashes. I had to wait a long time for some of them to recover, and I have also made some disastrous choices, but this strategy has served me well overall. Alas, being closer to retirement means that I need to be more cautious, so I’ve backed off on this. I also despise the extra work that comes with short-term plays, and just don’t have time to watch the market that closely. I do have maybe 5% of my assets now that are still in the speculative doldrums, biding their time, waiting for a miracle. My suggestion, however, is to play with broad-sector or whole-market EFTs rather than single companies, and put no more than 5-10% of your assets in short-term speculation. The returns will be smaller, maybe 0.1% per transaction, but it will be more secure, since the next “mini crash” may be the “beginning of the end,” you see.

Conclusion

So, I have about a third betting on Trump getting what he wants, a third betting on Trump being a disaster, and a third that won’t matter. You will notice that I’m not betting at all that Trump’s policy will be wildly successful. This isn’t just because of my ideological leaning. Simply, one should never vote that a President will be wildly successful. Still, I did about triple my safe-haven holdings and financials, which reflects my overall, ideologically-tilted view of how his presidency will turn out: not much will change, with a chance of a disaster.

Year-to-date, my portfolio has stayed about about 1-2% behind DJIA. I think this is a reasonable return for a contrarian portfolio.

If the Democrats sweep the elections in 2018, we will be back to the stability of do-nothing-ness, and I will normalize my portfolio. If the Democrats take back the White House as well (or if Trump becomes a liberal, like you keep hoping he will), then we will have a different set of investment headaches. Be careful what you wish for!

[11/12/17: Please also see the 6-Month follow-up to this article!]