“Get me into a Trump portfolio” are the chants being heard from clients across all annual wealth management meetings as they seem to have missed the 8%-12% rally in Developed Markets from the lows reached in November. Most media commentators use the Donald Trump nomination as a reason for the swift rally across markets. Amusing as that might be, certainly makes watching “fake” news much more entertaining, one needs to see what is really happening behind the scenes. For most of 2016, investors were so greedy to chase any yield whatsoever that by the summer, more than 30% of global sovereign bond market yields were trading in negative territory. Markets had convinced themselves in a “lower for longer” rates mindset and chased investments without questioning the rational.
2016 was a year characterised by the Fed moving back and forth between their hawkish and dovish stance. They backed off from raising interest rates every time an exogenous shock threatened the state of the global economy, ignoring underlying US economic indicators that begged to differ. As the economic data started to improve domestically and markets were healthy in general, Yellen hinted at a more hawkish stance after the summer and bonds started retreating slowly to price in a slightly higher rate environment going forward. The reflation trade had already begun in earnest before the US election results.
The Trump nomination only exacerbated the trend already in place. His acceptance speech was filled with phrases such as “it will be beautiful”, “make America great again”, “you are fabulous”, with no firm policies in place, just sugar-coated slogans promising tax cuts and spending boosts to the US infrastructure. The market got extremely excited at the prospect of real US fiscal expansion and started chasing all infrastructure related stocks, including Commodities such as Copper. At just under 8% of global consumption the impact of any demand improvement from the US pales in comparison to China, which consumes approximately 45% of total copper consumption. It just isn’t the same thing. In all the fun and games, the average US consumer has not figured out that perhaps their quality of life may be worse off not better, as goods manufactured domestically might mean higher end-user prices. There is no doubt that we will be in a higher inflationary world going forward, but what happens when everyone is positioned one way? Any shock or surprise announcement can cause a rush for the exit doors. Multiply this flow by the multiples of leverage that most Hedge Funds invest at, and the moves are even more amplified. That is the pain experienced by Hedge Funds over Q4’16.
So what is the “Trump” portfolio? Be long Banks, Cyclical stocks, Basic Resources and Energy sectors, Dollar, and short Treasuries, and Gold. This was the poster child of all portfolios during Q4’16. Coming into 2017, as usual every sell side analyst is pushing this “reflation” basket. Déjà vu anyone? It is as though at the start of the year, every house gets normalised at 100 with the same predictions. Start of the year consensual trades barely work out well; 2016 is a great example of this. Fundamentally these views may make sense, but it is the timing that could now be called into question. How much of those themes have we actually priced in a very short period of time? As a portfolio manager, one needs to always question who the “marginal” buyer is. Sometimes it is best to sit it out, licking your wounds, no matter how obvious an investment may seem, especially when the risk reward is not balanced.
