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Aon Retirement and Investment Blog

Asset Allocation View: Trump Wins

Donald Trump will be the 45th President of the United States

The Republican nominee, Donald Trump, has confounded the vast majority of pollsters and analysts by winning the US Presidential Election by a clear margin. As an example of the scale of the surprise, the popular Iowa Electronic Markets implied probability of a Hillary Clinton win was as high as 90% only two weeks ago[1].

The highlights from the results:
  • The share of the popular vote is higher for Hillary Clinton than for Donald Trump, but with Trump winning more Electoral College votes and the Presidency.
  • Many States considered as "safe" for Hillary Clinton and the Democrats, such as Wisconsin and Michigan, voted for the Republicans.
  • Both houses of Congress continue to be held by the Republicans, thus freeing the hand of the new President in terms of his policy plans.
Market reaction

It is obviously too early to be definitive in terms of the market reaction, but first signs showed a negative reaction, followed by stabilization. The US dollar weakened early by around 0.2% against the euro and a larger 1.8% against the Japanese Yen (at the timing of writing of 10am GMT, 5am EST). Also, in a signal of the market's interpretation of events, the Mexican peso fell almost 10%. The rush to safe havens, which is the main reason for the rise in the Japanese Yen, also (as of time of writing) boosted the price of gold by almost 2%.

The most important moves in our view, however, were the move up in Treasury yields (which are partially being reflected in other countries' government bond markets too). These rises in yields at time of writing were especially apparent in the longer end of the US curve, with 30 year Treasury yields rising to 2.8%. This also meant that the yield curve steepened. This reaction was mirrored on a smaller scale in the UK, with long-dated Gilt yields up 5-8bps at the time of writing.

The policy implications
History tells us strongly that there is a big difference between statements made on the campaign trail and actual policies brought into law once in the Oval Office. However, with little else to go on, we can make some assumptions regarding the implications of a Trump Presidency if we take his statements at face value. There are a number of policy elements that could have important effects on the US economy, both positive and negative. These are:
  • Tax and spending plans: The bipartisan think tank, The Committee for a Responsible Federal Budget, has estimated that Donald Trump's tax and spending plans will add $5.3trn to the national debt over 10 years. The main proposals of these plans include a simplification of the personal income tax rules, which will result in a significant tax cut for wealthy individuals, a reform of business taxes and $450bn of extra defense spending. The reform or repeal of the Affordable Care Act could be an offset and add to the US budget. These estimates are forecast to increase US debt as a percentage of GDP to 105% by 2026 but, crucially, this number does not include any adjustment to GDP growth as a result of the boost from tax cuts and defense spending. There will be many arguments about the likely boost and it will depend on the actual details of the policies enacted. We will comment on these projections further as more information comes in over the coming months. Nonetheless, the markets have decided, at least initially, that the fiscal position of the government will worsen, implying a greater supply of Treasuries over time, thus reducing their attraction.
  • Trade and Immigration: Donald Trump has been highly skeptical regarding free trade deals and immigration, stating that he would be much more inward looking and would reject or repeal many of the current deals, such as NAFTA or the Trans-Pacific Partnership. Economic theory overwhelmingly suggests that less free trade results in lower GDP growth over time and if trade restrictions are adopted, global growth will be weaker. Against that, if fiscal stimulus is delivered, there is a partial offset to the broader growth impact. Again, we will need to see actual policies before taking a view on this and, while the Republicans also control Congress, many of them are in favor of free trade (and conservative fiscal policies), so it is not necessarily true that protectionist (or fiscally expansionary) policies will come into law easily. We will have to wait and see. For the time being, the possibility of trade and migration restrictions is being interpreted negatively for Mexico and China.
  • The Federal Reserve and Monetary Policy: Fed Chair, Janet Yellen, has come in for some criticism by Donald Trump and the chance that she will not be reappointed when her four year term ends in February 2018, has certainly risen. In the meantime, it is unclear what the short term economic impact will be and we still expect an interest rate increase in the mid-December meeting, but the risk of a delay has also risen. This would provide a boost to markets in the short term.
Potential implications for client portfolios
  • The Brexit decision, this election result, and the weakening hold of centrist consensual politics in much of the developed world in the past few years, tells us that political and policy uncertainty is generally higher. The backlash against globalization has been ongoing for a few years, and with hindsight, it was only a matter of time before this was reflected in upsets to the political status quo. Even if the US result had gone the other way according to the dominant market expectation, the broader trend would still be in the direction of more challenges to consensus economic policy. We believe higher uncertainty will be reflected in risk premiums for asset classes. Aside from the usual valuation considerations and the increasing inability of easy money to continue to deliver asset price gains, it is one reason why our broad asset class views have become more cautious after the Brexit result.
  • We do not believe that portfolio adjustments need to be made to allow for this result, however. The near term uncertainties have clearly increased, but since the policy shifts that might follow are still very unclear, actual market impact over time is still not particularly predictable. Diversified portfolios that have managed the risks from different economic scenarios sufficiently remain our recommended approach. Episodes of uncertainty and market volatility spikes over the next year as policy takes shape under the new administration look inevitable and while the risks from these can be mitigated, they cannot be entirely avoided.
Authored by Aon Hewitt's Global Asset Allocation Team


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