Trump's new world order

How the US election will reshape Australia

First, I would like to congratulate the Eureka Report team for what was a magnificent market call this week when it became clear that Donald Trump would become the next US President.

The Australian market was being smashed but Eureka alerted its subscribers not to panic and were proved right by the surge in the American market that night, which was followed by the Australian rise.

Let me add some more background as to why markets suddenly became enthusiastic for Donald Trump and explore some of the implications, particularly on interest rates.

The Trump plan, in its essence, is very simple and markets clearly believe it will work. He is planning a major infrastructure investment and, unlike Australia, he won’t let public servants constantly get in the way of the infrastructure momentum. But he will refire the American steel furnaces, because he doesn’t plan to use Chinese steel. Although Australian miners are now flavour of the month, remember our iron ore goes to China and Asia. If Trump sticks to plan it will not be used in the US expansion, although I suspect a way will be found.

He plans to lower the US tax rate and suck the enormous sums that American corporations are holding overseas back into the US. Along the way he will make it harder for Canadian, Mexican and Chinese exporters to tap the US market. He says that will be done via higher tariffs, but we will wait and see. China and Mexico will be clear targets. The world is going to move from an increasingly globalised one to one where nations will look more inwards. But given today’s communication and transport systems there is a limit to this change.

America will stop being the global policeman, so NATO will go into decline and Russia will become much more powerful in the Eastern European countries. Europe could have a hard time as right wing anti-immigration forces increase along with Russian influence. Add Brexit and bank weakness and Europe looks very unstable. And Asia, which is a major exporter to the US, will encounter disruption, particularly in a higher interest rate environment. That’s our area. Accordingly, expect volatility in the market.

Japan and South Korea will need to increase defence spending dramatically, because they may not have the same American support. I am afraid Australia may have to do likewise. Unfortunately, our defence people are just way out of touch with what is taking place in the world.

Trump’s financial team means business

Meanwhile, if that is what Trump does, then have no doubt that America is going to be a very strong economy. But expect inflation. The really good news is that Cerberus Capital chief executive Stephen Feinberg, former SEC commissioner Paul Atkins, and former Goldman Sachs banker Steven Mnuchin are advising President-elect Trump during the transition period.

Trump is looking at Mnuchin as Treasury Secretary; he is close to Trump because he became national finance campaign manager last May. Mnuchin would become the third former Goldman person in the last 20 years to head the Treasury. Robert Rubin and Hank Paulson were the first two.

Mnuchin led the mortgage-trading department and was the bank’s chief information officer, during his 17-year career at Goldman.

There is no doubt that Trump is going to clean out a lot of the public service baggage that has been accumulated, and if he selects the right people he could be a very good President. That is exactly what Ronald Reagan did.

That massive injection of economic activity and money from abroad comes at a time when the American economy does not have a large unemployment problem, so wages are going to rise and inflation will start to creep up.

As a result we have seen shares rise on Wall Street, but bonds fell in price and the yield on 10-year US bonds is now around 2.1 per cent compared with under 1.4 per cent just a few months ago. That represents a huge fall in price.

Prospects for Australian superannuation and property

Here, in Australia, we have been watching our property trusts and infrastructure companies like Transurban and Sydney Airport fall in price in anticipation of higher world interest rates. The election of Trump accelerated the fall. Our markets are clearly signalling that commercial property and infrastructure is going to be priced on a higher yield – in other words, it falls in value. That is going to catch out a lot of people who bought commercial property on very low yields earlier this year.

In situations like this the stockmarket moves ahead of independent valuers but, over the next year or two, valuers will need to bring their property values down to the levels where the market is pointing. That is going to be a considerable problem for industry superannuation funds that have outperformed retail funds like AMP, MLC and Colonial because they invested heavily in unlisted infrastructure and commercial property.

The sharemarket is telling us that it is unlikely that these property and infrastructure investments will rise in value, and there is quite a possibility that if they have been valued aggressively there will actually be a fall over the next two or three years. This will cause a lot of disruption in our superannuation and finance industries. Will it extend to the housing industry? As yields on commercial property rise, so the attraction of buying residential property will become less enticing.

As long as there is squeeze of availability in a particular residential sector, prices will continue to rise. But in areas where there is no supply shortage these higher global interest rates will depress the market, although it will take time before higher global interest rates seep into bank deposit rates and therefore home loans. But, in time, it will happen unless the Reserve Bank is aggressive.

The fall in values of property and infrastructure stocks in Australia is also partly caused by the fact many of them are highly leveraged and the market is expecting they will have to pay more for their borrowings longer term.

The gold bulls were expecting that if Trump was elected, the US dollar would weaken and there would be a rush to gold. That has not happened. Instead, the US dollar is firming. A stronger economy, higher interest rates and the prospect of American money returning home has fuelled the US dollar. These two events – the rise in the US sharemarket and the fall in bonds – are a very good example of the virtues of a diversified portfolio.

Next steps for Australia

As money moves to the US, so it will increase the pressure on Europe, on Asia and on Australia. We have been running a very sloppy ship in Canberra, with huge amounts of waste in duplication with the states. There will now be much greater pressure on our Government to perform, and if it doesn’t there will be a change of government.

I know that a large number of Eureka readers who are very dedicated to the need to reduce carbon. This is an incredibly low priority for Donald Trump, and if the US starts to grow and restarts its steel works it will not meet its greenhouse commitments.

I am afraid that will be followed by other countries. I think we are headed into a world where there will be a lot more activity within nations. This is not good for Australia, but it is a reality and we are going to need to manage our own economy better than we have in recent times.

Readings and Viewings

To call the last week of events 'exciting' would be a huge understatement. As the vote counting in the US election on Wednesday (Australian time) began to draw a clearer picture of the outcome, global markets went into meltdown, ours included. Less than 24 hours later they had completely rebounded!

For investors, it’s definitely a case of hold onto your hats. So, here’s some of the things that caught our eye...

In case you missed it, two former Aussie PMs gave their views to the 7.30 Report this week on the new Trump world order: 

Keating: "So Trump says can't we have a better relationship with Russia? Not a bad idea. Then he says instead of the pivot to squeeze China down, he says can't we get along better with China? ... not a bad idea." 

Howard: "But everybody has got to do a better job of explaining the benefits of globalisation. I think everybody has got to understand that it does carry a pain and penalty for some people."

Meanwhile, a New York Times columnist said Trump's victory might be a circuit-breaker for the divisive culture wars: "If Mr Trump delivers on his promises, he will not give the religious right what its leaders have traditionally demanded ... but will instead offer them maximum latitude to pursue their agenda at the state level."

Onto business, and while Hillary’s infamous email exchanges managed to dominate much of the US election, it’s the emails within Rio Tinto that are now causing waves.

And election protests aren’t limited to the US either. Commonwealth Bank shareholders have voted down the bank’s remuneration package.

On a brighter note, New Zealand, and no doubt Australia, could be unlikely beneficiaries of the US election, based on a surge in online real estate viewings this week.

But Vancouver, Canada just a short hop over the north-western US border – is in a property league of its own based on this sky-high condo listing.

GoPro has been hitting significant market turbulence of late, and it seems some of it could be due to bad Karma.

Meanwhile, it has also been a bumpy ride for Google parent, Alphabet, in what could be classed as a drone attack.

And this week saw rental car company Hertz involved in a heavy crash landing, with its earnings hitting a brick wall:

Go ahead, make my day. Dirty Harry (aka Clint Eastwood) surely wouldn’t be voting for this, with iconic gunmaker Smith & Wesson to ask its shareholders to approve a company name change to American Outdoor Brands Corp. But the firearms brand won’t be changing.

Much of the explanation of the large divisions among representatives in particular in US politics currently can be slated back to gerrymandering. This quick little video explains that dark art.

Over to the UK, and British shoppers received a “frock shock” during the week with a profit downgrade from major retailer Marks and Spencer.

As if that weren’t bad enough, Toblerone is also under fire from customers for modifications to its famous triangular chocolate bar.

And James Bond has been put on the case of Tesco Bank to track down a hacking gang that stole £2.5 million from customer accounts.

Could it be that the City’s banks are losing their way due to punitive taxation?

In India, it’s more a case of customers cashing in. That is, they’re turning in their large note denominations as part of Prime Minister Narendra Modi’s edict to stamp out black money.

Do you have the right stuff? NASA is on a mission to find astronauts ready to head to Mars.

Lastly, Ireland’s Ryanair has the last say with an election-busting seats deal inspired by The Donald. No one Trumps Ryanair fares. Jordanian Airline's pre-election advertisement wasn't bad either:

Last Week

Shane Oliver, AMP Capital

Investment markets and key developments over the past week

  • The past week has yet again all been about the US presidential election with sharemarkets first falling and bonds and gold rallying on news of Donald Trump’s likely victory as investors initially worried about a global trade war and policy uncertainty, only to see a sharp reversal and then some as investors focused on the stimulatory aspects of his policy platform. The key turning point appears to have been Donald Trump’s conciliatory victory speech which appeared to drive a focus on the more positive aspects of his policy platform which could boost growth, inflation and interest rates in the US. Reflecting this, most sharemarkets saw strong gains overall but with emerging market shares lagging, bond yields rose sharply on expectations for higher inflation and interest rates and the US dollar fell and this weighed on the Australian dollar despite sharp gains in commodity prices. In the US sharemarket sectors that will benefit from deregulation and infrastructure spending under Trump – like industrials, financials, healthcare, energy and materials – rose the most but bond yield sensitive REITs and utilities struggled. This pattern was also reflected in the Australian sharemarket but with resources stocks doing particularly well.   

  • Three key points on Donald Trump’s election as President of the United States. First, Trump’s victory adds impetus to the backlash against economic rationalist policies and specifically globalisation that got kicked off by the Brexit vote. On the face of it this is a threat to global growth and investment returns if it ushers in a period of lower productivity. However, with Trump there is a twist – while his trade policies could be bad for productivity and global growth his proposed tax cuts, infrastructure spending and industry deregulation will likely boost productivity and growth. So it could all turn out to be positive. 

  • Second, what ultimately matters is whether we get Trump the pragmatist focusing on the fiscal stimulus (tax cuts and infrastructure spending) and industry deregulation aspects of his program or Trump the populist focusing particularly on aggressive protectionism. The populist is what we saw in the election campaign but economic and political realities usually force politicians to become more pragmatic once in office. Trump’s conciliatory victory speech provided a bit of confidence that he will be more pragmatic as does his business background. 

  • Finally, Trump’s victory adds impetus to the “great policy rotation” from relying solely on monetary policy to boost growth to a greater reliance on fiscal stimulus (tax cuts and infrastructure spending) and structural reform (deregulation). While House Republicans are likely to want to limit any budget deficit blow out, expect agreement to between Trump and Congress to be reached pretty quickly. This will likely all mean stronger growth, higher inflation, more upwards pressure on bond yields and more upwards pressure on the Fed. In the absence of much negative fallout in investment markets from Trump’s victory the Fed remains on track to hike in December (with the US money market pricing in an 82 per cent probability), but we could see three to four rate hikes next year rather than one hike that the money market has priced in.

  • Summarising, this is neutral to positive for shares (with stronger economic and profit growth offsetting the negative impact from faster Fed tightening), mostly positive for commodities (with US infrastructure spending adding to China’s), negative for bonds and positive for the US dollar. Emerging market shares could be relative losers though on trade fears and the risk of a dollar funding crisis if the US dollar continues to rise and yield sensitive sharemarket sectors like REITs and utilities are likely to be under pressure for longer as bond yields rise with cyclical sectors benefitting.

  • For Australia, the impact of Trump’s victory also comes down to whether we get Trump the populist – as US tariffs on Chinese imports will likely invite retaliation and see Australia caught in the cross fire with a fall in demand for our exports – or Trump the pragmatist – as stronger US growth and the avoidance of a debilitating trade war will ultimately be good for Australia. I have a leaning towards the latter. In the meantime with little negative fallout in investment markets from Trump’s victory there are little in the way of implications for the RBA regarding Australian interest rates in the short term. Looking out further if Trump’s policies help drive stronger US growth and inflation then the beneficial impact on Australia could help eventually help drive higher interest rates here – but that’s a 2018 story at the earliest.

Major global economic events and implication

  • US data remained good with a rise in small business optimism, job openings and hiring remaining strong, jobless claims remaining low and a reported easing in bank lending standards to households. Meanwhile the mortgage delinquency rate for US households has fallen to its lowest since 2006.

  • Japanese wages growth remained very weak in September and machine orders fell but bank lending and the Eco Watcher’s economic confidence index rose more than expected and corporate bankruptcies are down 8 per cent yoy.

  • Chinese import and export data for October remained weak but consumer price inflation rose slightly to 2.1 per cent yoy (from 1.9 per cent) and producer price inflation rose to 1.2 per cent yoy which is up from -5.9 per cent a year ago. The upswing in producer prices is driven by stronger commodity prices and a stabilisation in Chinese economic growth and is positive for nominal economic growth and profits in China.

Australian economic events and implications

  • In Australia, housing finance unexpectedly rose in September led by strength in lending to investors and ANZ job ads rose by 1 per cent but business and consumer confidence fell slightly leaving them slightly above or around their long term averages. Nothing to get too excited about here, but the reinvigoration of lending to property investors at a time when Sydney and Melbourne price growth and auction clearance rates remains robust is a bit of a concern. 

Shane Oliver is head of investment strategy and chief economist at AMP Capital.

Next Week

Savanth Sebastian, CommSec

Australian labour market in focus

  • The economic data-fest continues. There are around eight economic events of note in Australia in the coming week. In China, the October activity data is released. And in the US there are close to a dozen indicators to analyse.

  • The week kicks off in Australia on Monday when the Reserve Bank releases the latest data on credit and debit card lending. Cards are being used more often. But savvy customers are choosing to pay off credit cards by the due date.

  • Also on Monday the Australian Bureau of Statistics (ABS) releases broader lending finance data, covering business, personal, housing and lease loans.

  • On Tuesday the weekly consumer confidence survey is issued by ANZ and Roy Morgan. Confidence levels remain healthy, particularly when it comes to family finances – not just the current position of finances but consumer expectations for finances over the next year.

  • And the Reserve Bank also features on Tuesday with the release of the minutes from the November 1 board meeting. It is unlikely that the minutes will contain anything significantly new. The statement following the no-change decision was very comprehensive, in fact it was among the longest statements in recent history. In addition investors were able to digest the latest economic and growth forecasts in the release of Statement of Monetary Policy last week.

  • And probably of more interest to analysts and investors on Tuesday will be the speech by the Reserve Bank Governor Lowe. The Governor is delivering a speech at the Committee for Economic Development of Australia (CEDA) annual dinner in Melbourne.

  • On Wednesday the main measure of wages is released by the ABS – the wage price index. While many remark at the "extraordinary" situation of the lowest wage growth on record, it is still the fact that wage growth outpaces the low inflation reading. We tip wage growth of 0.5 per cent in the quarter and 2 per cent growth over the year – still well ahead of the 1.3 per cent annual growth of headline inflation.

  • Also on Wednesday, the ABS recasts the industry data on new vehicle sales. Motor vehicle sales are currently just shy of record highs

  • On Thursday, the ABS releases the October employment data. In recent months unemployment has been more mixed across the nation. In NSW unemployment fell to 4.9 per cent in September – the lowest result in four years. At the other end of the spectrum, unemployment in South Australia, Tasmania and Western Australia held well above 6 per cent. We tip job growth of around 20,000 in the month and a steady 5.6 per cent jobless rate.

Overseas: US retail sales & inflation to dominate. China data also in the spotlight

  • In the coming week in the US, various ‘top shelf’ indicators are expected like consumer prices and retail sales. But investor focus will also centre on the key economic indicators released in China.

  • The week kicks off in China on Monday when key ‘top shelf’ indicators are issued, namely retail sales, production and investment. Annual growth rates have seemingly found a base and are showing encouraging signs of lifting. In fact Chinese retail activity is growing at the fastest pace in nine months, while manufacturing activity is expanding at fastest pace in two years. A strong Chinese economy has been a key driver of the recent lift in commodity prices and the rebound in resource stocks over the last few months.

  • In the US on Tuesday, there are four indicators of note – retail sales, the Empire State manufacturing index, import price index and business inventories. The key interest will be in the retail sales data which is expected to lift by 0.5 per cent. Excluding autos and gas sales may have lifted by a more sedate 0.3 per cent.

  • On Wednesday, industrial production, the NAHB housing market index and producer prices are all slated for release in the US together with the regular weekly data on home purchase and refinancing. The housing sector remains the backbone of the US economy. Homebuilder sentiment should hold at a reading of around 62, while production may have lifted just 0.2 per cent in October.

  • And on Thursday in the US, housing starts and consumer prices will be released. Most interest will be on the inflation data given the importance to the timing of a December US rate hike. The 'core' reading of consumer prices (excludes food and energy) may have risen 0.2 per cent in October to stand 2.2 per cent higher over the year – a result that should ensure that the Federal Reserve does lift rates in December. For the record, housing starts may have rebounded by 11 per cent after sliding by 9 per cent in October. 

  • Also on Thursday, the weekly US figures on claims for unemployment insurance are released together with the Philadelphia Federal Reserve survey. The 'Philly Fed' index is tipped to ease from 9.0 to 7.0 in November

  • On Friday, the US leading indicators index is released with a 0.1 per cent gain expected in October.

  • In China on Friday, data on home prices is released.

Savanth Sebastian is an economist at CommSec.

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