The Algebris Bullet

The Silver Bullet | Trumponomics

There’s very little that excites investors these days as much as Donald Trump.

The good news is that as a discussion topic, Trump is far more exciting than my grey forecasts about debt overhangs, industrial overcapacity and looming QE infinity. The bad news is that in our view he currently has the strongest chance to become president.

We started making estimates on U.S. elections over the past few months, using a mix of poll data, market prices and other sources. It is still early to make a proper simulation, as I have been doing on European elections over the past years. But one surprisingly good leading indicator is the internet.

Google data shows two important trends: first, Trump has gained a strong lead since last year; second, Senator Sanders has been recently catching up with Hillary Clinton and is now more popular. The popularity gap is particularly interesting because Trump has been leading Clinton by a multiple, while as a comparison Obama was only leading by 1.5/2x vs Romney and McCain before winning the past two elections.

Now, there are all sorts of age and geographical biases in internet data: for instance, 84% of adult Americans use the internet, but only 58% of senior citizens do. That said, the data is nearly real-time and the sample is the whole country – a more comprehensive one than the few thousands of voters polled by agencies. One could say that media coverage has been particularly negative for Trump, and therefore not a good leading indicator of future results. On the contrary, a recent Vox study shows that Clinton, not Trump, is getting the most negative media coverage.

Internet data has indeed anticipated Trump’s rise in other polls. A recent analysis by the Wall Street Journal based on a telephone poll of 2,606 voters shows that Trump is now behind Clinton by only 3%, down from a 10% lag in April. A nationwide poll average compiled by Wikipedia also shows Trump has been catching up with Hillary. Bookmakers’ odds put Hillary at 3/4 probability of winning earlier this year. She has now fallen to 2/3.

There’s No People like Show People

Here’s why we think the odds could move even further in Trump’s favour:

1.Trump’s positions are likely to become more moderate in the run-up to elections and once he is confirmed as the leading GOP candidate. Trump’s manifesto currently includes a reversal of Obama’s healthcare reform, a reform of US-China trade (including a planned increase in military and commercial pressures on China), a reduction in corporate taxes to 15%, a reform of immigration, including higher standards for foreign work visas as well as for refugees – and of course, the Mexico wall. This agenda has been widely criticised for its lack of consistency and negative impact on international relations, as highlighted at the recent G7 meeting. But the paradox is that if Trump has been able to gain consensus despite a lack of consistency until now, the door may be open for him to capture consensus with a shift to the centre.

2.Hillary could get weaker. The leading Democratic candidate has two major issues. First, Hillary’s email controversy which began in March 2015 has not been forgotten, with a recent report from the State Department’s inspector general stating that she would have been denied access to a private email server, had she asked for approval. Second, Hillary has recently announced she will put Bill “in charge” of fixing the economy (CNN). This may be seen as a liability from all the Americans who are unhappy about the state of politics and want a break from the status quo – something both Trump and Sanders are offering.

3.Bernie is gaining, quickly. Senator Sanders is now showing both a lead on Hillary as well as better chances to defeat Trump (WSJ). A recent analysis by the Huffington Post argues that his lead vs Trump may be even stronger. A debate was recently proposed between Sanders and Trump, who in the end didn’t accept to participate. While Trump officially stated that “it seems inappropriate that I would debate the second place finisher”, it is possible that Sanders’ odds may have played a role in deterring Trump from debating. The California Democratic Primary could be Sanders’ last stand – Clinton is still leading in polls and with a loss in California, Sanders will eventually have to negotiate an agreement with her to either have an input in the agenda or be the VP candidate. This could give a boost to Hillary.

4.The Libertarians. There is no reliable data on Johnson and Weld, former Republican governors tapped as Libertarian candidates last week. The party got 1% in the 2012 elections, but given Americans’ dislike for the main two candidates, a third-party vote could win more consensus this time around. That said, it is unclear whether it would subtract more votes from Trump or Clinton.

Trumpsconi: Lessons from History

Private Joe Bauers, the definition of “average American”, is selected by the Pentagon to be the guinea pig for a top-secret hibernation program. Forgotten, he awakes five centuries in the future. He discovers a society so incredibly dumbed down that he’s easily the most intelligent person alive.

This is the short description of Idiocracy, a 2006 movie portraying a world where intellectual curiosity is dead, as is social responsibility. Etan Cohen, who co-wrote the movie, recently tweeted he never expected his film to “become a documentary”.

There are two schools of thought on Trump. Some believe that despite the extremism and frequent flip-flopping in his views, president Trump would not be able to implement the most dangerous ones – thanks to the government’s system of checks and balances. Others believe he is dangerous and could potentially dismantle this same system of checks and balances, which is key to the concept of democracy.

I am firmly in the second camp. Having witnessed the rise of Mr Berlusconi in Italy and the damage done to the country over his two tenures, the potential risk that someone even slightly similar may take the reins of the United States appears disastrous. The similarities between Mr Trump and Mr Berlusconi are plenty.

Like Mr Berlusconi, Trump claims to be a successful businessman bringing change to an electorate tired with the existing political establishment. Like Berlusconi, Trump’s programme is big on slogans and on promising change, but falls short on details about how its economic targets would be achieved – and like Mr Berlusconi, Trump’s strategy to counter the evident shortfalls in math and logic is to minimise them with light jokes. Finally, Mr Trump shares with Mr Berlusconi an overwhelming coverage by the media, as well as a tendency to make a mockery of institutions. Mr Berlusconi frequently defined magistrates investigating him over tax evasion as “communists” conspiring to defeat him. Last week, Mr Trump called a U.S. Federal Judge “Mexican” in response to an investigation on Trump University.

Berlusconi’s final tenure in Italy (2008-2011) ended with public debt rising to over 120% from 106% of GDP and government bond yields rising as high as 7%, before European leaders forced him to step down. Mr Trump would inherit a much healthier economy, but his views on monetary policy and national debt are not a good start.

What would be the potential economic impact of Trump’s policies?



President Camacho:
“Number 1: We’ve got this guy, Not Sure.
Number 2: He’s got a higher IQ than ANY MAN ALIVE.
And Number 3: He’s going to fix EVERYTHING.”

(Idiocracy, 2006)

Taxes and fiscal policy
: Trump proposes to cut personal income taxes down to a maximum of 25% and reduce the long-term dividend tax to a maximum of 20% (cutting a number of deductions to compensate for revenue loss). He also plans to reduce corporate tax from 35% to 15%, at the same time forcing companies to accumulate tax money for revenues generated abroad. In tandem with these tax cuts, Trump promises heavy spending cuts to the healthcare sector, up to a complete reversal of Obamacare. Under Obamacare, the percentage of uninsured American adults fell from a peak of 18% to 11.4% according to Gallup data. Trump’s programme proposes a series of measures to offset this, including tax-free Healthcare Savings Accounts (HSAs). Defence spending, instead, is likely to increase, given Trump’s support for the second amendment and use of firearms.

Immigration: the proposal to reduce illegal immigration may have some long-term impact on wages, yet its cost is estimated to be around $400-600bn, according to the American Action Forum, including deportation costs. This excludes the cost of the wall, estimated at $25bn.

Trade and foreign policy: this is where Trump could potentially make the most damage. Some of his proposals may include trade tariffs and a general protectionist stance, especially against China. It is safe to assume that most emerging markets will be hurt, and particularly the countries and firms which are heavy exporters to the US. Mexico may suffer from the proposed ban on remittances, which are currently around 2% of GDP (World Bank).

Financial markets: Trump has been supportive of easy monetary policy and said he would remove (or not re-nominate) Fed Chair Yellen. The combination of tax cuts and easy monetary policy in the future could make stock markets rally, at least short-term and in domestic sectors. The impact on US Treasuries would be negative, given higher spending and Trump’s views on debt restructuring.

The Trumpmageddon Index

Are markets pricing in a Trump victory? Some prices are starting to move in that direction. The cost to insure Mexican bonds against default has risen to 172bp from 100bp at the beginning of last year. Stock markets are also moving – and to show this, we introduce a very simple (and not serious) index of stocks that could be affected by Trump’s rising popularity. The index is, of course, purely for tracking purposes and not an investment recommendation.

Long: Las Vegas Sands (Casinos), AECOM (Infrastructure), Smith & Wesson (Guns), Lockheed Martin (Defence)

Short: American Airlines (Airlines/Travel), Western Union (Money transfers), Lenovo (Electronics manufacturer/US exporter from China), Banorte (Banking group from Mexico)

It’s still too early to tell whether Mr Trump will win, but one thing is sure: political risk is on the rise, and not just in the United States. Bond investors have nowhere to hide but to manage political risk in a diversified, global portfolio.

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