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Market Outlook

US tax breaks and trade wars: has Trump been good for US stock markets?

The first year of Donald Trump’s presidency confounded many expectations. Businesses cheered and stock markets soared on the promise of lower taxes and fewer regulations as the new president took office.

By the end of 2017, the S&P 500 finished the year up by 19%, the Dow Jones Industrial Average by 24% and the Nasdaq by 27%. Companies and stock market investors were heartened – but not for long.

Trump’s bombastic leadership style and his lack of regard for factual information led to questions about the credibility of his statements and volatility in stock markets. What has happened since is no secret. The US president’s doubling down on tariffs and consistently unpredictable policy choices have had a negative impact on the global economy, business activity and consumer confidence.

By the start of 2019, the S&P 500 was down by almost 8% from its level at the end of 2017. The Dow Jones Industrial Average and Nasdaq were 7% and 6% lower, respectively, over the same period. Now, US stocks are at record highs. So how has Trump has affected markets since becoming president?

 

What happened in 2017? 

Six weeks before his inauguration, Trump tweeted that “the US is going to substantially reduce taxes and regulations on business”. By keeping those two promises, he was able to win over companies and investors. 

By the end of 2017, Trump had overhauled taxes with the Tax Cuts and Jobs Act (TCJA) The legislation focused on corporate taxes, bringing the tax rate down to 21% from 35%. Although proponents suggested that the move would ultimately increase household income and workers’ wages, there has so far been little evidence of this. Yet US stocks soared and corporate profits climbed by 8% from the first quarter of 2017 to the first quarter of 2018, according to Forbes

21%

The corporate tax rate brought down from 35% at end of 2017

 

Trump also kept his promise to roll back regulations. This partly contributed to the stock market rally by the end of 2017, A. Gary Shilling writes in Bloomberg. Although Trump’s push for deregulation has arguably had negative social and environmental effects, it has certainly helped businesses in the short-term. For example, shares of banks benefited as the asset threshold for those classified as systematically important US financial institutions has been increased to $250bn from $50bn. Elsewhere, drug producers gained from faster Food and Drug Administration approvals.

 

How tariffs have affected stocks 

The gains that stock markets have been able to achieve after Trump’s policy rollouts have faced volatility. This has largely been down to his use of trade tariffs to try to improve the US’s terms of trade with other countries. This week, for example, US stocks opened lower on poor manufacturing activity and Trump’s tweet about plans to reintroduce tariffs on US imports of steel and aluminium from Argentina and Brazil.

Things were similar in early 2018, when the US president escalated trade tensions with Mexico, Canada and Europe and also began his trade war with China. The average US tariff on Chinese imports has since grown from around 3% at the start of last year, and could reach nearly 24% by the end of 2019, according to Forbes.

24%

Predicted average US tariff on Chinese imports by end of 2019 - a rise from 3% at the start of 2018

 

Meanwhile, Goldman Sachs [GS] predicts a drag on global trade growth in 2020. The bank noted that US financial conditions have tightened, which usually negatively affects stock markets, and consumers in China are growing less confident. Slower GDP growth in the US and China is expected to continue in 2020 and 2021, it added.

Despite its macroeconomic concerns, Goldman Sachs still thinks the US bull market will continue next year. “The durable profit cycle and continued economic expansion will lift the S&P 500 index by 5% to 3250 in early 2020,” David Kostin, chief of US equity strategy at Goldman Sachs, said. “However, rising political and policy uncertainty will keep the index range-bound for most of 2020.”

“However, rising political and policy uncertainty will keep the index range-bound for most of 2020” - Goldman Sachs chief of US equity strategy David Kostin

 

The effects of uncertainty

On top of the president’s tariff proposals and reversals, he has created an unpredictable economic environment by repeatedly issuing bold statements about the economy and then contradicting or withdrawing them.

Economists at Northwestern University, Stanford University and the University of Chicago, who have created an index to measure economic policy uncertainty, have said the level of uncertainty seen under Trump is similar to levels during the 9/11 terrorist attacks and the 2008 financial crisis. 

Repeated studies have shown that uncertainty leads companies to invest and hire less, Geoff Colvin writes in Forbes. Uncertainty also makes consumers and companies less responsive to cuts in interest rates and taxes. Furthermore, economists at the Federal Reserve have said trade policy uncertainty reduced US GDP by 0.8% by mid-2019 and will continue to do so into 2020. 

In fact, JPMorgan [JPM] has created an index that tracks the effects of the president’s tweets. The Volfefe Index – a play on Trump’s infamous “cofefe” tweet in 2017 – tracks the effect of tweets on two- and five-year US Treasury yields. 

Some hedge funds have been able to successfully profit from Trump’s erratic tweets. “[Trump’s tweets] have increased volatility… So if Trump says, ‘Ban the Chinese’, and then, ‘Don’t ban the Chinese’, there’s more volatility,” Credere Capital’s chief investment officer Oliver Dobbs was quoted as saying in a Financial News article by Tom Teodorczuk.

“If you’re long on volatility you can make money out of it. People aren’t guessing what he’s going to tweet; it’s more he keeps changing his position and that increases the volatility,” Dobbs added.

“If you’re long on volatility you can make money out of it. People aren’t guessing what he’s going to tweet; it’s more he keeps changing his position and that increases the volatility” - Credere Capital chief investment officer Oliver Dobbs

 

However, such plays are becoming less common, according to Teodorczuk. Currently, Trump tweets less about the economy and more about his potential impeachment.

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