Kopi Time E145 - Markets and Trump 2.0

Now, I'm having this discussion recorded just a few hours after Donald Trump took over office, and there has been a slew of executive orders taking the US out of the Paris climate treaty, withdrawing US from the WHO, talks about 25% tariff on Canada, Mexico, uh, starting on the 1st of February. I think it will take a while before The market can fully digest, if ever, but at least

not now. It'll be a while before the markets can digest, even remotely the far reaching implications of some of Trump's measures, and I don't think we can wait that long. I think we need to suss out what awaits us perhaps with some historical context and that's where I'd like to begin today. Uh, let's travel back.

To the 1890s, 1890 to be precise, when William McKinley, who was the powerful head of the House Ways and Means Committee, pushed through a wide range of tariffs uh for on on US imports, and the idea at that time was to make sugar non-dutiable and balance. The loss of revenue from sugar import to a wide

range of other non-sugar products. And the reason for that was in the late 191880s the US was going through a bout of high inflation, food prices were up, and the view was that a certain imported food items, including sugar, maybe if you make it duty free, it'll help inflation, but if you lose that tariff, well, that's a problem, so impose tariffs on everything else. And as a result, the average tariff on duty of imports in the US went to about 50% and the

average tariff on all imports went to about 20%. This proved to be actually pretty unpopular because the Congress actually got a revenue windfall, uh, because the tariff that they took away from sugar and put on everything else actually amounted to more money.

The Congress actually was called the billion dollar Congress in the early 1890s, and the Democrats ran against this measure by Republican McKinley to increase tariffs on a wide range of things in the midterm elections in 1892 and the Republicans lost the House and the Senate altogether, uh, because

of the unpopularity of tariff. Now, the Democrats who ran against tariff, spent the next few years, at that time, by the way, they had all three chambers of the House, uh House and the Senate and the presidency. Grover Cleveland was a precedent, and they tried for the next couple of years to remove the tariffs. It didn't work out that well. I think that's lesson number one

from history. Once you put up tariffs, it's not that easy to take out because all those industries that get protected by tariffs start fighting against it. So the Democrats tried and failed, and by the mid of 1890s, tariffs were still there and the US was stepping into a big recession. There was a banking crisis, uh, monetary policy was very tight because there was not a lot of extra gold and the US dollar was linked

to the gold. So for a variety of reasons, uh, public opinion turned very, very sour pretty quickly and by 1896, the Democrats lost and the McKinley tired guy, McKinley, William McKinley became the president of the United States. Um, now, the subsequent years when McKinley presided over high tariff, the US actually went through an amazing spurt of growth, uh, both with respect to GDP and productivity, and it was something that has been noticed by Donald Trump.

He always says that McKinley is his favorite president. He wants to be a tariff president himself, and he cites the years of McKinley presidency and the years after that early 1900s as proof that you can have high tariffs and high growth at the same time. So it is important for us to understand some of the things that happened in the US in the late 1890s that led to the strong growth and the conditions we might be encountering going into 2025 and beyond.

How did the US manage to put a massive wall of tariffs, discourage competition, push away overseas uh flow of goods, and somehow miraculously grow so fast. Two things happened. First, the Klondike gold rush. There was a huge discovery of gold in the US. That gold entered the market, and since the dollar was linked to the gold, that resulted in a huge expansion of money supply. Now, as a result, the US went through a monetary easing while dealing with some of the headwinds from tariffs.

So that was a very nice offset. The second big offset was massive amount of immigration that was continuing into the US from mainland Europe. So, in the late 1890s and early 1900s, the US was blessed by substantial monetary easing and substantially easing of labor supply because of substantial immigration. Do we expect either of those to happen in the next couple of years in the US? I think very unlikely. Inflation is still a problem, tariffs could fuel even additional inflation.

Trump also has plans to cut taxes. That certainly won't help the inflation cost in the near term, and therefore, we might actually see monetary policy remain where it is now, or it will be marginally easier over the next year or two. So the late 1890s style massive monetary expansion simply is not on the cards. The second one is immigration. I think we can all safely say Trump is not interested

in increasing substantial immigration. He's trying to decrease, particularly undocumented immigration in the US, so we were not going to see an expansion of the labor supply unlike what we saw in the late 1890s. So my lesson from comparing what's coming versus what happened back then. Is that substantial additional tariffs will almost certainly add to inflation, immigration measures will almost certainly add to tightness of the labor market.

And therefore, going forward, I'm not particularly hopeful that Trump tariffs, whichever shape and form they come in the coming days and months, uh, would be particularly helpful to the US growth outlook. I've seen some forecasters out there looking at about 2.7% growth for the US. I mean, this is

the most optimistic end of the spectrum. I am probably more with consensus looking at low 2s, about 2.1%, because if indeed the tariffs get implemented in a Wholesale manner, universal tariffs, substantial tariffs on additional tariffs on China, substantial tariff on Mexico, Canada, all those things would be very,

very disruptive for business sentiment. It would be disruptive for the inflation dynamic, uh, would be, uh, disruptive for flows of trade, putting it on, and of course, let's not forget, I forgot the other important point. There would be retaliation. As the US raises tariffs. Other countries would raise tariffs, US exporters would suffer, that would

then come back to again hurt US growth outlook. So I would probably shave off 40 to 50 basis points from that very optimistic end of the forecast instead of 2.7%. I think a reasonable forecast for the US for 2025 would be in the low 2s, maybe 2.1 or so, assuming some of the shocks that are likely to come in the coming days and months. Now, beyond the issue of growth, which again I'm underscoring to be in the low 2%, uh what are the

other market implications for the US? And the first is if rates do stay high, uh, there are negatives for the equity market, which has been on a tear the last couple of years. Uh, very rarely is the case that you see two consecutive years of 20% plus return. So from that perspective, uh, the headwind that will come from the US equity markets is a simple uh yield gap that if you have 10 year bonds yielding close to 4.7%, 4.8%, even 5%, uh, the dividend that the S&;P 500 gives uh looks very.

Attractive by comparison, and that becomes a sell signal in many equity evaluation models. Now you could of course argue that dividend is passe, all that matters is growth, and US tech companies are growing so fast. There's this huge AI boom going on, so why should we be negative

about the US stock market. So I think that, you know, you could be constructive about certain parts of the market, but still be fairly cautious about the overall market outlook uh based on the yield gap calculation and also The good news for the tech uh companies is so deeply priced in because as soon as Trump got elected, we've seen a massive rally in the Teslas. And the tech companies in general, ah, because they're expected to benefit tremendously under the Trump administration. So I think

the the upside is very much priced in. What has not been priced in is the likelihood of rates remaining high under the high tariff environment and therefore I am fairly cautious on the US equity side. And also let's not forget there is a tremendous amount on a relative basis value in the rest of the world,

whether it's in Asia or in Europe. They haven't had, they haven't been blessed by the kind of growth momentum that the US has had lately, but I wouldn't put it past equity portfolio managers looking at those opportunities outside of Asia if rates do remain high through the course of 2025. The other issue related to rates is of

course the private markets in the US. We will discuss Uh, private markets in a deeper dive, uh, in a couple of weeks' time at a separate podcast, but there has been a big expansion of private equity, private debt, uh, and the impact of interest rates remaining sticky on those asset classes, um, I don't think it's going to be

particularly constructive. I'm not necessarily foreshadowing some systemic risk coming out of the US financial system, uh, because of high interest rates, but it cannot be a You know, help in any way or stretch of imagination. It's a tail, it's a headwind, and we need to be cognizant of that risk on the financial stability side coming from high rates. Credit, same story, credit spreads are exceptionally narrow. There there's only one way for them to go in my view, which is higher and with

Policies likely to remain fairly restrictive going ahead. Uh, I think that there is room for some, particularly in the sub-investment grade category for credit spreads to widen from the historical narrows that we have right now. How will Asia deal with all this? I urge you to read the weekly we published, uh, yesterday. Uh, we're

gonna put the link on the show notes. Uh, we talked about the issue of trade, uh, you know, a simple metric would be which country exports the most to the US and the Vietnam, Taiwan's, Japan's are the highest in the region. China is actually not that vulnerable uh of China. Total exports, barely 15% or even less, uh go to

the US these days. It's come down a lot. Now you might argue that China has diverted the trade through Mexico and Vietnam, and those countries trade share with the US has certainly gone up, uh, but it is still a final demand export from those countries that tariffs will affect those countries directly, China downstream indirectly. But if I were to look at countries that are most vulnerable to a universal tariff, I would not put China at the top of my list. I would think

more about Vietnam, Japan, Taiwan, and so on. Uh, I also think that some of these countries are such strong allies of the US, Japan and Taiwan in particular, that there will be a lot of horse trading and exceptions made to universal tariff. Nonetheless, tariffs are coming. Markets will know that these countries will see some of their export demand in the US go down as a result, and they would be cautious about the outlook of the

export industry, particularly of those countries. In addition to export performance, the other thing for Asian economies to worry about in the tariff for 2.0 scenario. Is the currencies. Uh, that is usually the first place where the market reflects its view on the impact of tariff.

If I think Country A is going to be heard by tariff of Country B, then Country A's exchanges should be bid down against Country B. And then we've seen this play out in the last couple of months, uh, Asian FX in particular, including that of Mexico outside of Asia have sold off ever since Trump got elected in anticipation of the tariff shock that's coming, exchange rates have

been adjusting. But these sort of developments rates remaining likely, you know, high in the US, exchange rate outlook becoming a bit cloudy, exports outlook looking a bit difficult. This will put Monetary policymakers in the region in a bit of a quandary.

You've seen in Asia in the last couple of months some central banks choosing to stay on pause, some being a bit brave and cutting ahead of any further shock that is coming out of the US, but by and large I think it's safe to say if the Fed becomes reticent about cutting rates, Asian central banks would have a very hard time. Uh, trying to differentiate themselves away from the fat and cut by themselves. Mind you, rate cut imperative is not

that great in Asia anyway. Asian economies have done pretty well this year. There aren't that many headwinds to worry about beyond tariff. Regional travel, tourism has picked up. The region is going through a purple patch with respect to investment, and in that mix of fairly decent macrodynamic, I don't think there is a great deal of desperation or urgency among central banks to cut rates. It would be nice to cut rates, but it won't.

The end of the world. I would not be revising down Asian growth forecasts in a wholesale manner if I start losing confidence in the rate narrative. I don't think so. So rates may come down or not may come down. I think Asia can chug along pretty well. But again, if you are hugely exposed to the trade cycle, if you're hugely exposed to the US markets, there will be noise that just goes without saying. I will conclude my short podcast for today, uh, and

guests are coming, don't worry. Next year podcast, we'll have some excellent guests. Uh, I want to finish the podcast today by talking about China. The Chinese economy eked out 5%

growth for 2024. People always have some quibbles about China's national accounts numbers, but when we look at performance from a wide variety of companies which report audited accounts outside the US, outside of China, and when we look at their books and their sales in China, they don't look that different from an economy that is growing by, uh, you know, 4 to 5% in real terms or expanding in nominal terms by 5 to 6%.

So we do think that China had a decent year, led by exports, of course, the manufacturing sector had a great year, exports did very, very well, mind you again. While exports to the US are import for China, almost 90 or 85% of China's exports go to the rest of the world. Those markets have been very buoyant and again, we're not just talking about third market parties through which those countries

eventually trade with the US. Asian domestic demand has been strong, Middle East has been strong, Latin America has pockets of strength, Africa, same story, and those areas are increasingly intertwined with China's trade and exports, uh, dynamic. So, China had a good 2024, 25 will be clouded by the trade and tariff wars and the uncertainties vis a vis the US, but at the same time, we do expect a substantial more support measures coming from the authorities.

Our China team in their reaction to the 2024 GDP numbers. said that to sustain anything close to that 5% in 2025, we'll probably need 50 basis points at least of prime lending cuts. We probably would need additional fiscal stimulus, not necessarily higher quantum, but better targeting aimed at areas that need revitalization. And I do think that some of those things are fairly well understood within the policy circles in China and therefore, watch out for a more targeted, if not more quantity

of stimulus coming out of China in 2025. So I'm gonna wrap it up for that uh on that right for the time being. So thanks to listening to the first podcast of 2025. It's great to have you guys. And your support. Copy Time was produced by the very efficient Ken Delbridge at Spy Studios. Violet Lee and Daisy Sharma provided additional assistance. It is for information only, does

not represent any trade recommendations. All 145 episodes of Copy Time are available on YouTube and on all major podcast platforms, including Apple, Google, and Spotify. As for our research publications, webinars, and live stream, you can find them all by Google and DBS Research Library. Have a great day.