This Is What The Market Thinks Will Happen To The “Trump Repatriation” Cash
Donald Trump’s election victory has driven significant rotation across global markets. Bond yields are up, the USD has strengthened, DM equities have risen, EM equities have fallen and cyclical stocks have outperformed defensives. Amid the chaos, Citi’s Global Equity Strategy team has attempted to craft some “Trump Trades” to help investors take advantage of the volatility.
While the trade recommendations were not terribly surprising, really just a suggestion that current market rotations will continue, what struck us was the degree to which certain Trump policy ideas, like the repatriation of US dollars from overseas, have already been baked into markets.
Just yesterday we noted that Trump’s repatriation tax holiday had likely contributed to at least some of the USD’s strength over the past week. That said, we also pointed out how misguided that theory was given that most dollars held overseas are actually held in US currency and repatriation, therefore, wouldn’t result in any incremental buying.
Similarly, while many have hailed Trump’s repatriation tax holiday as a positive for U.S. capital investment, per Citi’s latest note, the market has different ideas about how that money will be spent once it reaches domestic shores…share buybacks. In fact, Citi points out that prolific share repurchasers have seen their stocks outperform the broader markets by nearly 5-points since election day. Perhaps, someone should explain that it will probably take a couple of years before this type of legislation can be drafted, passed and implemented? Never mind, just keep buying.
Tobias Levkovich’s US share-shrinker portfolio has risen sharply relative to the S&P following the US election. Clearly, the market thinks that much of the capital repatriated from overseas will be returned to shareholders, and maybe much of the corporate tax cut as well. This doesn’t bode especially well for those who hope policy changes will encourage a significant pick-up in US company capex.
The other Citi “Trump Trades” are mostly just a continuation of the market rotation we’ve seen playing out over the past couple of weeks. The “Buy Equity Dividend Yield” trade has now, courtesy of higher bond yields, conveniently morphed into “Buy Even Higher Cyclical Equity Dividend Yield.”
We don’t believe that the search for yield is dead but it may be changing. We now favour our “cyclical yield” strategy. This picks global stocks with decent dividend yields and healthy growth rates. Unlike other equity income strategies, it tends to outperform when bond yields rise. The median stock in the screen is yielding 3.8%, offering annual dividend growth of 13%. That still seems a good deal compared to the global government bond index yielding 0.9%.
Finally, the other big Citi “Trump Trade” suggests buying Developed Market equities over Emerging Market equities. While the basis of the trade is somewhat founded in the idea that Trump will pursue more protectionist policies, the crux if Citi’s argument is that DM equities are better positioned to absorb higher bond yields.
The global market response to the Trump victory has been to accelerate a global reflation trade that had already been gathering pace since the start of July. 10-year government bond yields are up across the world (Figure 4). Expectations of a more hawkish Fed have driven the US$ higher.
Across equity regions, investors have responded to the Trump victory by buying the US and selling EM (Figure 5). While the weakness in EM can be explained by sensitivity to a rising US$ and fears of protectionism, many have found the strength in the S&P more perplexing.
After the Eurozone crisis, low interest rates and QE policies were more successful in driving down risk premia in fixed income than equity markets. This has left DM equities better placed to absorb the impact of higher government bond yields. Duration, EMU periphery, EM and corporate bond trades look less well placed. The ERP could fall further. This tends to be most positive for cyclical stocks and sectors.
So 1 month ago, we were told that U.S. equities should rise because bond yields would be low forever, discount rates should trend toward 0% and therefore equity valuations should trend toward infinity over time. Now, we’re told that despite bond yields surging we can still count on U.S. equities trending toward infinity because they’re better positioned to absorb higher rates than emerging markets.
In summary, just buy U.S. equities.