Post Election Thoughts: Has the Trump Trade run its course?

Welcome to the MUFG Global Markets Podcast. I'm John Cook, and I'm joined today by George Goncalves, MUFG's Head of U.S. Macro Strategy.

It's Tuesday, November 19th, 2024. Welcome back to the podcast, George. Great to be back on, John.

Yeah, always good to have you, and it has been way too long since our last podcast, but now that we're past arguably the macro event of the year, the U.S. election, this episode feels like a pretty good opportunity to get our bearings. But where to start? So I suppose we should start, I guess, at the beginning with the election outcome.

So George, what are your initial takeaways? What also are the various schools of thought that are forming around the direction of travel for Trump 2.0 and the corresponding implications? Yeah, look, I mean, I'm not going to repeat, obviously, what's been well covered in the media and through the markets over the last two weeks or so.

But I think the biggest takeaway is, obviously, markets have proven once again to be better at discounting the outcomes. We saw that in a lot of these sort of prediction websites. But even in the financial markets, there was a sizable move in interest rates heading into the event.

And that being our main area of focus, looking at the bond market was already kind of feeling this out, that the Trump win, and what people have been calling the Trump trade, started before the election, right? So I do think that the movement in interest rates heading into it, it built around concerns around fiscal, which we'll get to in a moment. And also the dollar moves and financial stocks, just certain sectors, the crypto markets benefited tremendously.

So a lot of it has been in the tape. And I think this is where it gets interesting, because the red sweep and the ability to put in a lot of changes, notwithstanding, it seemed like an obvious that this would continue. The real question is, there's a lot priced in, as we say many times before, the starting points matter, and the next administration is inheriting a very unique situation of highly valued markets, and also an economy which, in many ways, has been kind of propped up by additional government spending, a lot of the job hiring over the past 18 months has been more at the government side.

Are there going to be some wholesale shifts to that? Perhaps the markets are overlooking in the midst of all this euphoria, perhaps markets have gotten a little bit ahead of themselves. So I think the two schools of thoughts are where there's more than one.

But there's the Trump 1.0 playbook, which is that a lot of the policies that could get put in place are either reflationary or outright inflationary. And so there's like, we can lean back to that 2016, 2018 period to try to get some guidance. I'm not in that school of thought.

I'm staying open-minded, as you've heard me say before. I think that there's clearly a mandate has been given to both the Senate, the House, and of course the White House, and how they choose to go about the sequencing of their policies and how things get rolled out. I think the markets sometimes jump to conclusions and they extrapolate, oh, this happened before, therefore it's going to continue to happen like this.

And I think we should be open-minded and expect the unexpected, and that there might be a sequencing that's different than what we saw in 2016 and 2018. So the two schools of thoughts are like, hey, it's going to be like it was during Trump 1.0 plus more, because now they've got their act together and there's clearly that's coming across and how fast a lot of the cabinet picks are being in the nominees and being put forth out there. But I'm more of the second school of thought, which is don't just rush to the conclusion that it's going to be inflationary.

In fact, many could argue that inflation played a big role in Trump being able to win. So why would they want to generate more inflation? So I'm staying open-minded that we should expect the fact that they're launching this department of government efficiency, that there might be some transition period where the government's retooled, the economy changes, and that might be lower inflation or at least inflation does not run away.

I'm sure I'm kind of rambling on here. We can go further into the implications of what this multi-step sequencing will look like. It has implications for the Fed.

It has implications for just general rate levels. Yeah, well, let's do exactly that. I mean, we've got a number of compelling points, simply expecting Trump 2.0 to look like Trump 1.0 and price action to follow suit seems a little overly simplistic, especially considering much of that was already in the price at the time of the election.

But I think that all the things you mentioned, inflation, a big portion of that is going to be the fiscal situation and how that's developed. You mentioned it in your sort of earlier response, but let's dig a bit deeper there. Where do you see the fiscal outlook?

I'm not sure if you want to sort of arrange it in like sort of the first scenario versus the second scenario, but I'd kind of be curious your expectations, but not necessarily just your base case expectations, your expectations across a variety of scenarios or the framework you would you would think about it within. Yeah, I think it's helpful to keep with that framework of is 1.0 just like a good starting point and therefore 2.0 is going to be like 1.0 plus it's going to be more is more the idea that the administration will just up the ante on what they did initially in 2016 and 2018, which a lot of it took place then into the into the midterms. Let's not overlook the fact that there was some execution delays and in the first 1.0 version that there was delays in some of the policies that Trump put forth didn't all come to conclusion.

Right. There was not a repeal of Obamacare and ACA. There was not all of the tax cuts were rolled out.

So there's there's some checks and balances there, but also there was an execution of like it was his first term doing it and maybe it took longer to kind of get things set up. There was more turnover in the cabinets. So let's say that 2.0 is going to be a much more efficient setup and which I'm more in that kind of camp.

Again, I'm staying open minded and not drawing any specific hard conclusions yet because they're not in office yet. I think that the idea of just expecting 1.0 and that is the baseline. I think that's too simplistic.

Let's just kind of look at the world in those two different frames. If it's a 1.0 and we're just going to do more is more and that if there is additional tax cuts and or most likely the extension of the original tax cuts in 2026, that all of this is just going to be debt finance, that there's not going to be an attempt to actually cut back on spending or that's difficult to cut back on spending. This is all just lip service.

I mean, that's that's the risk. The risk is that the fiscal expansion or just the further spending, we're just going to continue down this road of where we start to get concerns about debt sustainability and that argues for much steeper curves, higher rates and less Fed activity. That's like the first frame.

I'm more of this open minded that maybe there is an honest attempt at reduction in spending and looking for efficiencies of throughout different funding programs throughout the government and that leads to like the potential, hopefully the conclusions of all these multiple wars that are out there that we actually do see a savings of a couple hundred billion dollars. And we also, again, I mentioned at the beginning, like starting points matter. Let's not forget the last couple of years we've been spending two trillion dollars running.

So if you go down, I mean, I know it's going to be hard to cut back on spending back to even one trillion because I would feel like that would end up almost feeling like a recession, a big recession. But, you know, a couple hundred billion dollars of an attempt at savings. The irony and what would be the surprise factor is that you end up with a lower deficit, maybe not back to what it was pre-COVID, but you make an honest attempt at doing that.

You get some additional fiscal measures that create growth and that pays back tax revenue. I mean, those are the game theory positive of how the second frame might look like. And that world means you need less treasuries and therefore there isn't a need to have a further discounting out the curve and rates don't have to necessarily rise and most likely they actually end up falling from here.

It would probably be a world where inflation is still not really fully resolved here, but I think it's still heading lower. And I know we'll get to it in our kind of wrapping up at the end of our conversation. The macro still matters and what this next administration is inheriting, although animal spirits and sentiment has shifted higher, does that necessarily translate into further job hiring in the next two or three months or do we continue to slide lower because the economic momentum has been decelerating, especially if you strip out government spending?

So if you just look at private sector activity, it's been decelerating. So I feel like this is why it's like hard to come out with like, hey, a definitive here is the view. But I think this idea that just taking what it was before and adding to it is not the right way of thinking about it and that there is possibilities that this is kind of rambling here a little bit on the Fed view.

I will say that this means that the Fed cannot, and we heard it from Chair Powell right after the election at the Fed meeting, they can't make assumptions yet. These are all assumptions. Basically, everything I went through right now is a number of assumptions in different scenarios.

And so the Fed can't stop yet with their attempt at getting close to neutral wherever that may be. So yeah, I feel like markets priced in a lot, curves, I mean, rates will have a difficulty of really making a move towards 5% on the 10-year. If it does, I think bad things start happening and that will be problematic for risk assets, which has been the only thing that's been helping out the economy outside of the government.

Yeah. I mean, at this point, you're pricing in only 75 basis points of cuts through, you know, the end of next year, you know, which is obviously wildly different than it was a month plus ago. You know, but again, you keep on saying starting points matter.

That's really resonating with me. I mean, the fiscal situation is certainly a very different starting point than what Trump inherited in 2016. But I think we should wrap things up here.

And I would be remiss in not mentioning that the recent publication, you guys, you and your team contributed to our Global Markets Monthly. I'd like to conclude by taking our listeners through some of the high points of the piece that you haven't hit already. Yeah.

Very, very quickly. I mean, we go over a lot of the topics which we've gone through already. The special topic focus is that it's something that I've been working on for the better part of the last 18 months, as you know, is that there's a very bifurcated economy out there.

What some call, and I've been part of that, you know, you know, coining of the phrase of K-shaped recovery too, you know, there's a, you know, have and have nots type system, which is resulting in different spending patterns up and down different income brackets. And there's real stress out there in the low to, you know, middle to low income brackets. And you're seeing it in delinquencies, you're seeing it in how spending patterns have been pulled back.

And a lot of that's connected back to small businesses, which also are continuing to be, you know, facing uncertainty about, you know, the future of the economy and, you know, interest expense matters for both of those cohorts. And my argument has been and remains that, you know, the macro matters and the macro story has been different than other business cycles. It's been elongated by, you know, the wealth effect and, you know, the wealthy being able to continue to not save and spend, whereas, you know, the lower cohorts have not.

And now they're really feeling the pinch. And so, like, my biggest concern is that the Fed actually does take into account potential future fiscal policy too soon and doesn't deliver the easing that the economy needs at the moment. And then that actually creates, you know, further unnecessary pain for certain parts of the economy.

And then we end up in a slowdown anyway, regardless of the fiscal. That would be the irony of all this. The Fed doesn't deliver on what's needed for the economy because they're waiting to see how this all plays out.

So hopefully they don't and hopefully they deliver, you know, a few more cuts and then wait and see. But if they stop too soon, my concern is that it's going to really, you know, set back the economy if we're really going to be retooling it away from just government spending. Yeah.

It makes a lot of sense. And if the, you know, if that sort of Trump 1.0 inflation, you know, inflation or reflation narrative is not correct, that certainly argues for, you know, for the Fed to be more aggressive in cutting rates than is currently priced into the market. But you know, as kind of you've been saying here, it feels like there are more questions than answers at this point.

So I think you and I should make a New Year's resolution to do this podcast more often so we can update our listeners on the latest and greatest. And I would encourage our listeners to check out the fixed income section of the Global Markets Monthly entitled Post-Election Macro Still Matters. And if you're still not receiving Georgia's strategy reports, do check out the MUFG Research Portal at www.MUFGResearch.com where you can find all of your favorite MUFG research as well as sign up to have it conveniently delivered to your inbox.

Great stuff as always, George. Thanks. And thank you for listening to the MUFG Global Markets Podcast.

Rate, review, and subscribe on Apple, Spotify, or wherever you get your podcasts. And reach out to your MUFG sales rep for any further information. Check back soon for more insights from the Global Markets Research Team.