Comstock Partners, Inc.December 02, 2016
PRESIDENT-ELECT TRUMP WANTS ECONOMIC GROWTH
But The National Debt Could Grow Even More
We have to admit to being as surprised as everyone else at the stock market’s reaction to the Donald Trump victory. And it is not because we think the policies of the incoming administration will be less growth oriented than the Obama or the not to be Clinton administration. Quite the contrary. President-Elect Trump’s policies will be friendlier to business and to the taxpaying public than the alternative. The problem is that those policies could also explode the debt, which we believe is the most significant financial threat to the country’s growth and economic well being.
On the positive side, there are a number of pro growth initiatives in the Trump plan. A partial list would include, infrastructure related spending and jobs resulting from the fiscal response, rebuilding a depleted military including new investment in weapons systems, scaling back or eliminating Obamacare, tax cuts for individuals and corporations, reducing the maze of Federal regulations that are choking certain business activity including energy production, building the Keystone and other pipelines, possible corporate investment in neglected real plant and equipment due to a shift to optimism from pessimism, and importantly, repatriation of corporate profits that are being held offshore, mainly in Europe.
On the opposing side, there are at least several negatives. Among those are building a wall financed by Mexico that causes friction and reverse immigration of low skilled workers (ultimately very inflationary), minimum wage laws, which are not only inflationary but actually can destroy jobs, renegotiation of trade agreements that slows business activity, trade tariffs that are ultimately borne by the U.S. consumer, and possible political interference in the activity of the Fed (our readers know that we have vehemently criticized this Fed in particular, but we have never espoused political interference).
Below are a few statistics, sourced from www. usdebtclock.org. We compare to the same series eight years ago, at the end of 2008, and encourage our readers to view for themselves.
We could go on and on with many more statistics but we think that you, the reader, get the point. Our thesis is, and has been, that the excessive debt that exists has slowed growth. This is evident in the anemic GDP growth statistics since the end of “The Great Recession”. We believe the better than expected 3.2% increase in GDP increase reported by the government last week will prove to be another false start, especially in light of the rapidly increasing dollar relative to the currencies of our trading partners.
At the same time that debt was going through the roof, the Fed was increasing its balance sheet from $800bn to $4.5tn. Said another way, the increase in debt, at least on the public side, was financed in large part through the printing of money. That has, in our view, led to the inflating of financial assets to levels not seen before on the fixed income side, and to near the most expensive valuations in history on the equity side. In its most recent reporting summary S&P 500 Trailing Twelve Month GAAP earnings are $89.29 (24.2X P/E on 9/30/16 Close). We have written about what we view as dangerously high equity valuations many times, most recently in the piece entitled “Malaise” on this website.
That brings us back to President-Elect Trump and what he will face as he attempts to implement the policies he espoused during the campaign. In March 2017, the federal debt limit, which has been suspended since the fall of 2015, will be reinstated. It is at the time, or more likely, in the weeks immediately preceding, that the markets will focus on the issue. We could again get a glimpse of just how topsy-turvy the world has become, for it may be the republicans that become the debt lovers and the democrats that, in the spirit of obstruction by both parties that has existed for some time, try to put the brakes on. While it may not be possible to predict the outcome, we feel it is safe to say that this is one of several catalysts that have the potential to ignite the bear market we have been anticipating for some time.
We think President-Elect Trump would be wise to heed the advice espoused by Randall Forsythe in the last two issues of Barron’s magazine. Essentially, it boiled down to taking advantage of artificially low interest rates and issuing 50 or 100 year bonds while cutting corporate tax rates to a theoretically revenue neutral 22%. At $20tn in debt, each 25 bps is $200bn of interest. In the longer term, this will have the effect of crowding out other spending. In our view massive infrastructure spending may boost the economy temporarily. But more spending means more debt and potentially more inflation and interest rate exposure. Whether President-Elect Trump and his advisors heed the advice remains to be seen. But from our perspective, we see more money printing, more currency debasement, and more risk to the financial assets that have been so grossly inflated by the Fed’s irresponsible experiment.