Download The Best (and Worst) of the Investor-in-Chief

THOUGHTS FROM THE CIO — JANUARY 2017
The Best (and Worst) of the Investor-in-Chief
• For the economy and markets, the best thing about Donald Trump is his
experience as an investor and his understanding of the conditions and risks
needed to promote growth.
• The worst thing about Donald Trump is his experience as an investor and
his tendency to take outsized risks that have the potential for unanticipated
consequences.
• Following an exceedingly stressful election, I release some pent-up energy
by unloading on President Andrew Jackson and the destruction of the
Second Bank of the United States (my sincerest apologies to Jackson supporters).
GORDON B. FOWLER, JR.
President, Chief Executive Officer
& Chief Investment Officer
• The note concludes with a summary of Glenmede’s views and portfolio
positioning as we head into the Trump era of government.
A Mischievous Challenge
Recently, a client suggested the title “The Best Thing about Donald Trump is…” for
my next Chief Investment Officer writing. The suggestion came with a mischievous
grin and hardy encouragement of capturing readers’ attention. No other ideas
were offered as to the substance of the writing.1
During the course of year-end events with clients and employees, as well as within
my own social circles, I observed how the election was frequently the elephant
in the room, making appearances in the form of passionate commentary and
reactionary glances. In fact, the recent election cycle has probably been the most
seismic U.S. political and economic event of this decade. As a result, avoiding the
subject and its implications for the economy and markets might be prudent.
Having said this, and recognizing there are strong opinions on all sides of political
debate, I will nonetheless seek to identify the “best” and “worst” thing of our
president, purely through an investment lens.2
1
2
I have learned not to make assumptions about a person’s voting records and this individual cleverly dropped conflicting
clues regarding his political leaning.
I will restrict my comments to thoughts on the economy and the markets. After all, you look to us as an investment
and wealth manager, not an arbiter of moral and social perspective. My opinions on these subjects will be no more
interesting or valid than any other guy seated on the proverbial bar stool.
Hail to the Investor-in-Chief
The “best thing” about President Trump is his business experience. By my reckoning, if real
estate development is a form of investment management, we have our first Investor-inChief in the Oval Office. The principal benefit will be his comprehensive view and intuitive
feel for what drives the economy and business. The president has a bottom-up and
top-down understanding of how markets work and importantly, how people in the markets
work. He has also proven to have ample experience taking risk.
If we were to poll ‘Mr. and Ms. Market’ about their expectations of a Trump presidency, we
would probably get a positive outlook. In the 30 days following the election, the S&P 500
rose by 5 percent. While much of this growth could be attributed to better than expected
economic data, business sentiment also improved. The market clearly likes the idea of
economic policy reform and corporate tax cuts. Of course, this is a mixed bag for larger
multinational companies that would pay more taxes if forced to repatriate offshore earnings.3
By contrast, smaller capitalization companies with little access to offshore loopholes have
rallied by 16 percent in the 30 days after the election. When you include the effect of federal
and state corporate taxes, and recognize earnings are paid to investors in the form of
dividends, the current tax rate on corporate earnings for individual owners in the top tax
bracket is ultimately more than 55 percent.
The market also likes the potential for further infrastructure spending and the prospect of
regulatory rollbacks in the financial, energy and healthcare sectors. The bond market is less
sanguine given the prospect for more federal debt, higher inflation and higher interest rates.
My principal concern with the president is, perhaps, the flip side of what the market favors:
his experience and history as an investor and risk-taker. Before I elaborate my concerns, let
me digress with a few comments on a man I view as possibly the most overrated president of
the United States, Andrew Jackson.
America’s First Populist President
Andrew “Old Hickory” Jackson, perhaps America’s first populist, was elected the seventh
president in 1828. He was known as having a violent temper, and for having fought numerous
pistol duels in which he sought to not just defeat his enemies, but destroy them. During his
tenure, he created the spoils system — a form of political patronage — and legislated the
Indian Removal Act, a ruthless removal of Native Americans from the Southeast, often
referenced as ‘The Trail of Tears.’ Jackson also pursued populist economic policies that led
to the Panic of 1837, followed by a long and biting recession that lasted until the mid-1840s.
In 1832, in a fit of populist pique against Northeastern financial interests, Jackson vetoed the bill
to re-charter the Philadelphia-based Second Bank of the United States, which had essentially
3
According to the nonpartisan Tax Foundation, the top marginal tax rate on corporate earnings is 38.9 percent including federal and state
taxes. This alone, though, is an incomplete measure of taxes on earnings. If earnings are paid to individual investors via dividends, these
dividends are then taxed again. Even if we exclude the tax on dividends, the U.S. has the second highest corporate rate behind the United
Arab Emirates (55 percent) and slightly ahead of Argentina (39 percent), the Congo, Guinea, Malta and Zambia (all 35 percent).
Review&Outlook
Page 2
functioned as the country’s central bank. As the Second Bank wound down, state-chartered
banks relaxed their lending standards, leading to precarious balance sheets and inflated land
prices, particularly in the West and South. This real estate bubble unraveled with Jackson’s
executive order, the Specie Circular, which mandated that Western lands be purchased with
gold or silver. This sent the gushing credit spigots into sudden reverse, causing a massive and
lasting real estate and commodity price crash that caused bank runs and loan redemptions
throughout the country.
While Jackson’s populist, anti-establishment moves were largely responsible for the size and
duration of the crash, the blame fell on his unlucky successor, Martin Van Buren. Jackson,
the ill-tempered brute, remained the champion of the common man and was eventually
awarded a featured spot on the twenty-dollar bill issued, ironically, by the eventual successor
to the Second Bank, the Federal Reserve.4
Objectively, it’s unlikely Jackson and his contemporaries understood the effects of not
renewing the Second Bank charter or requiring payment for land in gold and silver. The mid19th century grasp of macro economics was probably commensurate with the knowledge
of medicine, i.e., two or three steps beyond treating patients with leeches. Hence, Jackson
waded into unchartered territory armed only with the will of the people, a penchant for
revenge and theoretically, common sense.
In every age there are people who resist change and are, inevitably, characterized by
populists as the “establishment.” Sometimes that resistance to change is motivated by selfinterest, and sometimes it reflects a genuine concern that society is more complex and fragile
than it appears. In “draining the Capital Hill swamps,” Jackson brushed aside establishment
thinking and prudence, ultimately leading to unfortunate and unintended consequences.
President Trump as a Risk-Taker
Old Hickory was certainly not the first president to take risks. After all, running for government,
is a high-risk venture. President Trump, nonetheless, may stand in a class by himself. In his brief
political career, he has seemed to relish his public disregard of the behavior and protocols
associated with our nation’s most senior officials. To date, his non-conventional approach has
succeeded, defying pre-election analysis and statistical predictions.
The success of President Trump as a risk-taker and investor is hard to evaluate given the
murkiness surrounding his organization’s finances. Clearly, along the way, the president has
taken a fair number of risks and reportedly come close to financial ruin. Proximity to ruin usually
tempers a person’s behavior and it is possible his business practices have gone from what
some characterize as “crazy” to “crazy like a fox.” Ultimately, real estate development is a
risky business and, even a more tempered and “mellower” Trump is unlikely to have veered
too far from his original character.
4
To be fair, historians credit Jackson for resolving the nullification crisis and holding the Union together after South Carolina attempted
to nullify (or invalidate) the federal “tariff of abominations.” Allowing states to nullify Federal laws would have effectively made laws
passed by the Federal government meaningless. Had Jackson handled the crisis poorly, South Carolina might have attempted to secede.
Interestingly in the aftermath of the crisis, Jackson predicted that secessionists would shift from the issue of tariffs to slavery as a pretext for
leaving the Union.
January 2017
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The Best and Worst of the Investor-in-Chief
If we assume the president will be a big risk-taker, we should then question what risks he could
take that would adversely affect the economy. There are numerous possible answers, but
most analysts and economists of different ideological stripes, if they had to pick one, would
focus on trade.
The Most Likely Risk to a Trump Presidency: Trade Policy
It is hard to know what the president really believes. His statements over the years on tax cuts,
entitlement spending and monetary policy have been inconsistent. Trade, however, seems to
be the one area about which he is passionate. He has consistently taken a more aggressive
and protectionist stand than most conventional post-WWII politicians.
The political issues surrounding trade are fairly familiar — while the deficit has shrunk more
recently due to the U.S. rise in oil production, it remains larger than during the period following
World War II.
EXHIBIT 1: U.S. Trade Deficit as a % of GDP (excl. military aid)
2%
0%
-2%
-4%
-6%
-8%
1967
1973
1979
1985
1991
Source: U.S. Census Bureau & Conference Board
1997
2003
2009
2015
Data thru 9/30/2016
What is less well-known is how important trade has become to the American economy.
Through most of the ‘50s and ‘60s, exports and imports accounted for less than 10 percent of
the American economy, compared with close to 30 percent today.
EXHIBIT 2: U.S. Trade as a % of GDP
35%
30%
25%
20%
15%
10%
5%
0%
1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
Source: OECD
Data thru 12/30/2015
*Trade is measured as the sum of exports and imports of goods and services.
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The Best and Worst of the Investor-in-Chief
Critics of current trade practices argue that far more production should occur within our
borders. During his campaign, President Trump made the case for taking a forceful stance
relative to our bigger and more competitive trading partners, stoking fear of a trade war.
Regardless of the merits or demerits of globalization, the American economy and its
corporations are deeply enmeshed with domestic and international producers and suppliers.
A recent picture in The Wall Street Journal illustrated the cross-border origins of something
as mundane as a car seat. The manufacturer, Adient, sources its fabrics, stampings, foam
pads, plastics, and parts of the backs, cushions and seat tracks from U.S. locations. However,
the leather, track rails, headrest, armrest, trim covers and the remaining parts of the backs
and frames come from facilities in Mexico. Rapidly untangling such webs, which have taken
years and great expense to build, could be a shock to the system. Economic shocks like the
collapse of the internet and housing bubbles, are rarely good.
This brings me back to Andrew Jackson. He and his advisors didn’t know what they didn’t know
about the complexities of the banking system. They applied a simplistic solution to address
a perceived imbalance of power by the Northeastern banks. In retrospect, their actions
triggered a substantial panic and multi-year depression.
Global trade in modern America is a vast, complex system. It can be difficult to appreciate
the many linkages between our and the world’s economies. Our present understanding
of the impacts of varying trade tactics and policies will probably be viewed in future years
as simplistic.
Does this line of thinking imply a likelihood of a large-scale trade war and a subsequent
recession?5 On the one hand, we could just see posturing and bluster as the president
seeks to negotiate better deals with our partners. It is also possible that as president,
Trump could, quite unknowingly, incense the wrong nation at the wrong time. That risk is
likely higher with a leader who believes his success and mandate to lead rest on defying
convention and tradition.
Positioning Portfolios in the Trump Era
Generally, we think it is a mistake for politics to influence investment decisions. Ultimately,
markets grow along with the economy and earnings, which tend to move based on economic
events and business cycles. Even if one could successfully formulate non-consensus forecasts,
the outcome could still be quite surprising. Two cases in point would be Brexit and the U.S.
presidential election. In both situations, the respective British and U.S. markets fell when vote
results were announced, but subsequently rallied.
The confluence of new Trump economic policies and a maturing economic cycle should
have implications for investment policy. Our Investment Strategy team, led by Jason Pride and
Casey Clark, summarize these themes as shown in the table on the following page:
5
A number of prominent economists would likely argue that trade wars don’t cause recessions—a technically correct statement. A severe
disruption to a large sector of the economy would, however, weaken growth. It might also lead adversely impacted firms to delay the
inevitable restructuring by borrowing. When ailing industries lose the ability to borrow, financial crisis and recessions often follow.
January 2017
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EXHIBIT 3: 2017 Themes & Investment Implications
1. The Expansion Prolonged Economic growth appears
to have been accelerating since before the
election. This provides a positive backdrop for 2017.
Good for equities and risk assets
2. Disinflation No Longer Inflation appears to be rising
with commodities coming off their lows and wage
growth increasing. The risk is now that inflation rises
too fast.
Good for real assets (commodities,
real estate, MLPs, and Energy)
3. Rates’ New Upward Bias Monetary policy is
normalizing. Expect the Federal Reserve to continue
raising short-term interest rates at a gradual pace
in 2017, unless pressured by faster inflation.
Minimize uncompensated
duration risk (underweight fixed
income & offset with hedge
funds)
4. From Global to Local The pace of globalization
appears to be reaching a plateau and even
be at risk with the rise in protectionist, anti-trade
sentiment across the globe.
Favor regionally focused
businesses (smaller cap in
U.S. and Japan/EM Asia, &
de-emphasize multinational)
5. Security Selection Back in Style Rising return
dispersion and volatility should bode well for
disciplined stock pickers this year.
Favor active management
(fundamental & value but not
market cap-weighted indices)
Should we factor into portfolios the possibility of a trade war? Our theme favoring regional over
local markets is a soft response to that possibility and recognizes the fact that globalization
could well be peaking.
From a broader perspective, we think any disruptions to trade policy would emerge slowly,
giving us time to react. It is possible the markets could get quite jumpy if the new president sets
a date to cancel an existing trade deal such as the North American Free Trade Agreement
(NAFTA). On the other hand, President Trump has surrounded himself with experienced business
operators. Theoretically, his advisors will counsel him back from the cliff. As always, we will
keep a watchful eye on the economy and the markets and remain in close communication.
Review & Outlook is intended to be an unconstrained review of matters of possible interest to Glenmede Trust Company
clients and friends and is not intended as personalized investment advice. Advice is provided in light of a client’s applicable
circumstances and may differ substantially from this presentation. Opinions or projections herein are based on information
available at the time of publication and may change thereafter. Information gathered from other sources is assumed to
be reliable, but accuracy is not guaranteed. Outcomes (including performance) may differ materially from expectations
herein due to various risks and uncertainties. Any reference to risk management or risk control does not imply that risk can
be eliminated. All investments have risk. Clients are encouraged to discuss the applicability of any matter discussed herein
with their Glenmede representative.
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