Post Election Economic and Market Analysis
In the aftermath of the election our investment strategy team spent a good deal of time reflecting on the post-election economy and implications for financial markets and sectors. We concluded that the policies Donald Trump campaigned on would be good for the economy and for the stock market, but perhaps not as good for bonds.
The US economy continues to show signs of strength overall, but employment gains have slowed, and inflation remains stubbornly higher than the Fed’s 2% target. As we look ahead to economic changes in a new Trump Administration, we believe investors should take the views expressed by Mr. Trump on the campaign trail seriously, but not literally.
With Republicans controlling the Presidency and both houses of Congress narrowly, they are likely to use a procedure known as “reconciliation” to pass a new economic plan. Under the rules of reconciliation, any plan that increases the deficit can only be enacted for a maximum of ten years. Extending current tax law would be calculated to increase the Federal deficit, so reconciliation is the likely option. Current tax law is likely to be extended with a few modifications. President-elect Trump floated several additional tax policies during the campaign, some of which are likely to be included in a new tax package. No tax on tips and an increase in SALT deductions to $15,000 or $20,000 are the most likely. Some of the other ideas would probably be deemed too costly to include.
Along with lower corporate tax rates, deregulation was one of the biggest economic growth drivers in the first term of Donald Trump. An attempt will be made to lower corporate tax rates a bit more, but it is hard to say whether the rate will be lowered for all corporations. The President-elect has proposed possibly providing incentives in the form of lower rates for corporations that bring manufacturing back to the US from other domiciles. Deregulation and the allowance of more mergers and acquisitions (M&A) are also expected to occur.
We are not as concerned about the implications of tariffs and immigration as markets are signaling. We have already heard more nuance and moderation from the President-elect and his appointees than the strong rhetoric pronounced during the campaign on these issues. In addition, we already witnessed the threat of tariffs as more of a negotiating tactic during then President Trump’s first term than the reality of implementing the most oppressive levels that were promised. Regarding the threat of deporting millions of undocumented immigrants, the President-elect’s nominee for Border Czar has already indicated that the priority is securing the border, limiting the flow of new undocumented immigrants and deporting those that have been found guilty of crimes while in the US.
More favorable tax policy, deregulation and a more pro-growth private sector approach to business and M&A could lead to an extended expansion in the business cycle and set a positive backdrop for stocks. Interest rates have climbed in recent weeks over concerns that inflation has remained stuck above the Fed’s target and may not decline to 2% anytime soon. Fed Chairman Jerome Powell stated recently that the Fed is not in a rush to reduce short-term interest rates much further. Some economists believe the Fed wants to see more progress on reducing inflation further before they are willing to reduce the Fed Funds rate much more. Other economists believe the Fed is worried that economic policies in a second Trump term could be more inflationary. Our view is further disinflation will take time as wage inflation needs to catch up to price inflation that occurred during the last three years. We also believe the Fed often misunderstands the beneficial influence additional supply of goods and services have on the level of inflation. Energy prices are a key component in many more parts of our economy than just the consumer cost of gasoline and heat. Oil is a major input cost of many household and business products and has a big effect on transportation costs for businesses that generally gets passed along to consumers. Within the next twelve months, it is reasonable to expect that lower energy costs will have a positive effect on the general level of prices in the economy. Deregulation will also bring additional supply to important economic sectors and allow more competition, also helping to reduce inflation.
Turning to financial markets, after many weeks of gains leading to election day, the stock market enjoyed an additional burst of enthusiasm once it was clear that Donald Trump had won and Republicans would control both houses of Congress. More business-friendly policies along with extension of the current tax code was the most likely reason for the post-election jump. A further rise in interest rates since election day and comments by Fed Chairman Powell cautioning against near-term further reductions in short-term rates caused short-term stock market traders to take profits during the week after the election. It is important to remember that the S&P 500 gained 25% in 2023 and was up an additional 27% in 2024 before the recent pullback. While further declines are possible in the days ahead, we believe additional gains are likely as the year draws to a close. As we look ahead to 2025, we believe it could be another positive year, although less robust than the previous two.
As always, we covet your feedback and are available for any questions or comments you may have. All of us at Covenant wish you a Happy Thanksgiving and a safe, healthy and enjoyable holiday season.
Written By: John Guarino, President and Chief Investment Officer