As you might expect for a student of politics, philosophy and economics (also known as “General Studies”), the current state of play is about as exciting as it could possibly be. Look how Trump is crunching the historic separation of powers! See how the UK demands a better representation of its trading powers! Hear the populace roar as it divides into combative factions! As we search for what it means for the future, we look to the past, and engage in paroxysms of joy as we wax lyrical on the return of a bipolar global system. A loyal BM reader, and History PhD, remarked just last night over a glass of vino that the classic battle of East vs West is as old as time, and the resurgence of China/Russia is just another swing back in the pendulum of global geopolitics.
So much, so beard-stroking, so pipe-smoking. You need to know what it means for your portfolio.
As we know, the battle lines for this year are Protectionism vs Reflationism. We know how the latter plays out because we’ve seen it manifest itself since curves started to steepen last September – as Chinese Producer Prices started to accelerate higher:
In this world, the US Dollar rallies. But what happens in Protectionism world? Well then you get inflation alright, but at the cost of growth, as Trump slaps tariffs on someone, who slap tariffs on someone else, who threaten economic or even physical retaliation… and on we go. In that world, capital is brought back home. The reduction of investment could see dumping of USD assets, leading many to conclude this scenario would be horrible USD negative, what with their current account deficit and all. But then again, it could lead to vast repatriation, with demand for USDs outstripping supply. Either way, you could see a 10% rally in the Dollar followed by a 20% sell-off. People talk about ‘Trump-as-Reagan’ potentially delivering the Volcker-esque early 1980s monumental rally in the US Dollar. But if we do get that, it will be with double the amount of volatility. Why? Precisely for all those fascinating reasons given in the first paragraph – because this new world order is going to smash people over the head with its new paradigm. It will take us time and a lot of volatility to adjust. We are not just talking about one eccentric man becoming President and doing unexpected things; we are talking about populism gripping the world, deliberately dividing its people and disrupting all of our institutions of government. We needed to be woken up because it turns out some very big questions indeed have not been answered. What kind of nation do we want to be? What values do we hold? Should a nation export values as well as goods?
Markets should be agnostic to politics. But flows speak volumes. Dumping of assets creates re-pricing.
And we are about to see a re-pricing of risk, as the market wakes up to the fact that we are now in the world of the Big Political And Economic Questions. Don’t get dragged into whether it’s good or bad; don’t conflate your personal view of Trump/Brexit as that of the whole market; don’t, as Gordon Gekko himself said, get emotional about stocks Bud. But do realise that whether we are focusing on Protectionism or Reflation as the theme, there will be wildly different outcomes, and you need to make sure you haven’t got too much risk that’s predicated on only one of those themes winning out. We’ve been doing Reflation since September; now Protectionism – and the roll-back of globalisation – is about to take centre stage. Forget the Fed and non-farm payrolls: when is the Trade War going to start?