Communication from the new president and his first executive measures came as a disappointment to investor expectations, as he outlined a protectionist and isolationist stance, rather than the Reaganomics rhetoric that had been expected (deregulation, tax cuts). The dollar fell and long-term rates slid below 2.5%; small caps’ outperformance evaporated.

 

This severe uncertainty on the direction of fiscal and regulatory policy in the US makes for a very tough situation (Federal Reserve chair) for Janet Yellen. The first democratic Chair for the Fed since 1987 is having to deal with an all-powerful Republican president who wants to revive real growth of 4% and create 25 million jobs in four years.

 

Yellen thinks that potential growth amounts to no more than 1.8% and that the economy is already enjoying near full employment. In her recent speeches, she underscores the inflationary impact of stimulus measures favored by Trump (tax cuts, military and infrastructure spending), to which we can also add the stagflationary impact of his protectionist threats.

 

She has also implied that in the event of massive stimulus measures, her role as chair would force her to significantly accelerate interest rates hikes (and to kick off a reduction in the Fed’s balance sheet by the maturing of long bonds), with the ensuing risk of triggering an interest rate shock, which would be fatal for certain markets such as real estate, automotive and equity markets, and of setting off a considerable increase in the dollar, which would be dangerous for disaffected Trump voters (deindustrialization), as well as for large emerging countries, such as China (capital outflows).

 

Yellen is at the end of her term and will not serve another, and may perhaps display unexpected confidence in the face of the US executive to safeguard the institution’s independence and assert her heritage. The trend for US interest rates, equities and the dollar will hinge on this political shock, with the spill-over this could have for the markets worldwide.

 

We were skeptical on the legitimacy of the Trump rally on the equity markets. We have gradually taken profits on our exposure to US equities by shifting our overweight stance onto equities in the Eurozone, Japan, Canada, Taiwan and Australia.

We remain cautious on emerging equities due to political risk and dollar risk. We still play diversification into credit on our bond portion, along with the narrowing of the interest rate differential between the US and the Eurozone (Bund). We are neutral on commodities while playing gold long against oil.