Republican presidential nominee former President Donald Trump watches a video screen at a campaign rally at the Salem Civic Center, in Salem, Va. on Nov. 2.Evan Vucci/The Associated Press
I find it striking that even though Donald Trump beat Kamala Harris by more than three percentage points in the national vote, the Republicans only managed to flip a few seats in the Senate and the House of Representatives. The House is going to likely be a razor-thin GOP majority replete with 38 Freedom Caucus members. The bond market is freaking out, but Mr. Trump may end up having more trouble with his fiscal plans in the House than many think at the moment. And that includes many of his budget-busting, vote-grabbing tax-cut goodies.
It is interesting how the down-ballot vote – for state and local representatives and issues – didn’t match his success at the top. And Ms. Harris received less of the Electoral College vote than Hillary Clinton did in 2016, which says a little about what voters are signalling. They obviously didn’t like her at all and preferred Mr. Trump – just not all his policies apart from controlling the border and his constant promises to bring down inflation. If voters liked his budget policies, the down-ballot vote would have been closer to the huge win Mr. Trump enjoyed at the national level.
The reaction in equities is massive but understandable – deregulation, etc. But the bond market is overplaying the fiscal implications, in my view. There is no debating the freak-out session in the Treasury market. The stock market is overcome with greed, and the bond market with fear. Fear of massive fiscal deficits. Fear of inflation. Fear the Federal Reserve will kybosh the easing cycle. I understand it.
And nobody can say for sure at this point whether the carnage in the bond market and euphoria in the equity markets is over right now. Extreme sentiment can move to further extremes in markets driven by greed and fear, where perception dominates reality. For the equity markets, it is all about “Dereg!” and that is a confidence booster. More shackles are taken off the Financials and there’s no big fight with Big Pharma. Visions of a mega M&A cycle have equity investors salivating. And, of course, there’s the memory of the last GOP sweep, in November, 2016, though I should add that the equity risk premium – the difference between the S&P 500’s implied forward earnings yield and the yield on 10-year Treasuries – was nearly 400 basis points back then and a mere 15 today. Does anyone look at that any more? Meanwhile, the stock market has done in two days what it took two months to accomplish in the bull move after the 2016 election.
The surge in bond yields from the levels in early October, when Mr. Trump began to pull ahead in the polls, took a month and change this time around, whereas it took nearly five months eight years ago. So much has been discounted in so little time in a signpost of a highly speculative financial market. As for equities, investors may be in for a surprise: The corporate tax relief will be less than what has been advertised.
The House is likely not going to play ball with a 15-per-cent top marginal corporate tax rate or the array of other election campaign goodies (including policies on tips, overtime and Social Security). This is not 2016, when the deficit-to-GDP ratio was 3 per cent, not 6 per cent, and the debt ratio was at just over 100 per cent, not making a run for 130 per cent. And the House is definitely made up of fiscal conservatives on both sides.
As for bond investors, I say chill. If equity investors are playing from the Trump playbook, so should you. In the end, it was the same policy prescription: lower taxes, rising deficits, tariff hikes, immigration curbs. And yet with all that, before all the distortions from the pandemic and the myriad policy responses to it, we entered the COVID-19 crisis after more than three years of a Trump tenure, with inflation and Treasury yields pinned around 2 per cent. Ergo, the inflation hyperventilating after Mr. Trump was first elected proved to be not just excessive but plain wrong. Plus ça change … we have seen this movie before.
At issue for the bond market is that the swaps curve in recent weeks has taken out nearly 100 basis points of rate cuts next year. That seems radical to me because nothing Mr. Trump is going to do will land until 2026. Remember, the tariffs and tax cuts in the last go-around didn’t occur until 2018 – 2017 turned out to be an okay year for Treasuries, helped in part by the higher starting point for the yield after the spasm that took hold right after Mr. Trump’s 2016 victory. (Sound familiar?) This time around, however, there are more fiscal and even political constraints on what he is going to achieve via deficit finance.
As I said at the outset, investors are not looking at what I am paying attention to, which is the gap between the top-line vote that brought Mr. Trump back to the White House and the down-ballot result, especially the tightness in the House, which does, after all, initiate all bills in the legislative process. This tells me that despite Mr. Trump’s very low personal approval rating, voters disliked Ms. Harris even more, that what we saw last Tuesday was a repudiation of the policies of the past four years and a pushback against the leftward lurch within the Democratic Party. At the same time, there was a message in the fact that to this day the House is too close to call (though the odds heavily favour the Republicans).
This was not a vote for fiscal recklessness. Apart from the border issue, bringing inflation down further was a critical Trump policy plank during the campaign. His last tenure was one of moderate growth, little better than Barack Obama, and there was no boom. What did take hold was a backdrop of low, stable inflation and a return to a bond bull market even before the pandemic reared its ugly head.
This reminder may be met with deaf ears from a bond market crowd that has been thrashed of late, but if inflation was a critical policy plank in the campaign, I am sure there is absolutely no public appetite for deficit-led inflation. And if the Republicans don’t deliver on this, then brace for political change in the other direction in the 2026 midterms.
That’s why I am the last bond bull standing, understanding at the same time that the upward yield momentum may continue over the near term as scared-off fixed-income investors shun duration exposure. But I go back to that last Trump era, and those widespread inflation fears at the beginning proved to be too extreme. I made the claim back then, which was proven prescient when all was said and done. And I’m playing from that same playbook this time around, as I sense a classic Yogi Berra déjà vu all over again.
David Rosenberg is the founder of Rosenberg Research.
Related:
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David Rosenberg: Investors are partying like it’s 2016-2018 again under Trump. That’s a mistake
David Rosenberg: Don’t believe the academics. Trump’s policies won’t be all that inflationary at all
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