16th November 2016
‘Rhetoric is cheap. Evidence comes more dearly’ – John Fund
As 2016 continues to deliver (in spades) on the political surprise front, along with the rest of the investment universe we are attempting to assess the impact of this change on financial markets and our portfolios. Longer term evaluation requires consideration of the effect of current and potentially future political upheaval. To this end, there are many questions to be asked of our new leaders on both sides of the Atlantic. Whilst we have heard plenty in the way of hard rhetoric, we are yet to see anything of substance. What we do know is much of the recent change is driven by populism and the many disenfranchised voters who feel left behind by globalisation and technology. Just as the fall of the Berlin Wall marked the shift towards increasingly globalised world, do recent events mark the beginning of a move to a less liberal, protectionist global environment? Time will tell.
Until now monetary policy has been the principal tool used in attempting to rebalance developed market economies. After many years of failure, there is now a clear realisation that in many cases this has created unhealthy outcomes – rising inequality amongst other things. For those regular readers, you will be more than aware of our views on the effectiveness (or lack thereof) of post 2008 monetary policy. You may also be aware that we have highlighted the increasing shift in emphasis from monetary policy towards fiscal stimulus. The latest political developments will only serve to reinforce this. The harsh economic realities of fiscal policies are potentially problematic for politicians. Infrastructure projects for example oftentimes do not yield much in the way of economic rewards and can take a long time to come to fruition – longer than any political term. As we wrote in the immediate aftermath of the US election result, the outlook for the “independent” Federal Reserve looks decidedly uncertain. The chance of further QE in the near future now looks extremely unlikely. Meanwhile with lower taxes on the agenda and in the absence of active Federal Reserve bond buying, government funding at negligible rates may be a thing of the past.
Market Expectations and Investment Process
The success or failure of new fiscal policies will undoubtedly play out over a considerable time frame. What does move quickly however is expectations and not just where the electorate is concerned. As capital markets appear to be pricing in a certain outcome in terms of lower taxes, higher inflation etc. so too can patience run out if these outcomes aren’t achieved. The economy is anything but a quick fix. This is where expectations and reality will once again diverge. Markets are stretched and susceptible to overreaction on any news flow. Investment process is key during this period and management of volatility will be crucial. During this time of change for both economics and politics having a robust strategy that emphasises liquidity will be paramount to managing drawdowns and creating higher compounded returns over time.
By Steven O’Hanlon