"Four key points you need to know about the Trump 2.0 era"

From the performance of the financial markets, the first week after the US election this year was undoubtedly historic - the market seemed to not have fully priced in the expectation of Trump's victory or a Republican red wave before the election. Therefore, we can see that the three major US stock indices reached new historical highs after the election, with Bitcoin even approaching $90,000, and investment-grade bond spreads hitting their narrowest level since 1998. Clearly, the market's risk appetite is very high - at least for now. So, besides the overall bullish trend in the short-term market, what insights can we gain from the results of this US election for the future direction of the economy and financial markets? In a recent research report, Deutsche Bank strategist Henry Allen listed the "four key points" that investors should pay attention to after the election (some of which may make investors more cautious). Let's take a look: Point 1: Inflation risks will continue to rise Allen expects that, given the tariffs and fiscal stimulus measures that Trump may implement, inflation risks will continue to rise. In addition, central banks around the world have already implemented loose monetary policies, while economic growth data has unexpectedly improved. Therefore, inflation will be a prominent concern, which may prompt the Federal Reserve to take a more hawkish stance. It is worth mentioning that Deutsche Bank has been warning about inflation risks for the past few months. Since the bank's report in September, the 2-year US inflation swap rate has risen by nearly 50 basis points. The four reasons why Deutsche Bank believes inflation risks will continue to rise are as follows: The first reason is tariffs. Obviously, the specifics of how these tariff measures will be implemented, and to what extent negotiations will be drawn out, are still to be seen. But Trump has been calling for increased tariffs throughout his campaign - far beyond the levels of his first term, including tariffs on all imported goods. A comprehensive implementation of tariffs could raise the core inflation rate in the US by 0.75 to 2.5 percentage points. The second reason is fiscal stimulus, as the extension of Trump's first-term tax cuts (set to expire by the end of 2025) will further increase demand, especially if further tax cuts are implemented on top of this. In fact, one can see how Biden's fiscal stimulus measures in the 2021 American Rescue Plan have caused inflation to rise, especially in economies already facing supply constraints post-pandemic. Compared to Trump's first election victory in 2016, the US unemployment rate is lower and the inflation rate is higher now, so it appears that there is less spare capacity in the economy. The third reason is that current inflation risks are already high, especially as central banks worldwide are loosening policies and money supply growth is accelerating. Since the September meeting, the Federal Reserve has cut rates by 75 basis points, and we know that the operation of monetary policy has a lag, so the impact will continue into next year. In addition, Federal Reserve Chairman Powell himself stated last week, "Our core expectation is that we will continue to gradually lower rates to a neutral level." As history has shown, when central banks loosen policy, it is often a time to be cautious, as inflation may rise again as a result. The fourth reason is that since the market turmoil this summer, US data has been surprisingly positive overall. For example, the October ISM Services Index reached its highest level in two years at 56.0. The unemployment rate has fallen by 0.2 percentage points since its recent high in July. Overall market conditions remain very accommodative, with the S&P 500 hitting a new all-time high and credit spreads reaching their narrowest level in years. Allen believes that the risk of rising inflation is not unfounded, as some investors have already realized. In fact, as of last Friday's close, the US 2-year inflation swap rate has risen from its recent low of 1.98% on September 6 to 2.62%. Point 2: The current financial environment is drastically different from when Trump first won in 2016 Allen states that the current financial environment is drastically different from when Trump first won in 2016. With rising US bond yields and increasing federal debt, the fiscal space is more constrained, and asset valuations are also much higher. While many are using strategies from 2016 to analyze the current situation, the reality is that 2024 will be different. First, the fiscal space in the US is facing more constraints. The federal debt level has increased significantly, and the Congressional Budget Office estimates that the US debt-to-GDP ratio will soon surpass its post-World War II record. In addition, both nominal and real yields have increased, so borrowing costs are higher now than eight years ago. For example, the 10-year US Treasury real yield closed at 1.94% last Friday, compared to 0.25% at the end of the week when Trump won in 2016. Second, market valuations are now calculated from a higher base, meaning that theoretically, it will be more difficult to achieve rapid growth than in 2016. In terms of stocks, the S&P 500 index actually fell by 0.7% in 2015, but by the end of October of 2016, just before Trump's victory, it had only risen by 4.0%. In comparison, the S&P 500 index rose by 24% in 2023, and by the end of October this year, it had already risen by 19.6%. The cyclically adjusted price-to-earnings ratio (CAPE) was 26.54 times in October 2016, but by October 2024, it had risen to 36.85 times. As of last Friday, the US high-yield bond spread had fallen to only 256 basis points, the lowest level since June 2007 (before the global financial crisis). In addition, the US investment-grade bond spread was only 74 basis points, the lowest level since May 1998. Third, inflation was not a significant risk in 2016 - US inflation has been low since the global financial crisis of 2008. When Trump was elected president that year, the federal funds rate was still in the low range of 0.25-0.5%, and it peaked at 2.25-2.5% during his term. In contrast, interest rates were already above 4% at the start of Trump's term. Therefore, Allen believes that addressing each poiLooking ahead, both the financial and economic situation are more severe than during Trump's previous term, with higher inflation, more restrictive monetary policies, higher asset valuations, and a more challenging debt situation.Key Point 3: The risk of a US debt ceiling crisis in the next two years has greatly decreased. Of course, a piece of good news for the market is that assuming the Trump wave comes (Trump wins and the Republicans control both houses of Congress), the risk of a debt ceiling crisis in the next two years will be greatly reduced. Allen said that extending the debt ceiling requires legislative approval from Congress, but in the case of a unified government controlled by a single party, this will become much easier. In addition, considering that default could trigger a financial crisis and economic recession, there is also a strong political motivation to avoid default. In recent years, US debt ceiling crises (such as in 2011 or 2023) have occurred in times of government division, which is no coincidence. But if people really see a big win for the Republicans, then the debt ceiling will not be a major political issue in the coming years. Key Point 4: Political instability in the US is becoming a new norm Allen pointed out, please remember, the US political scene has been very unstable in recent years: in the past 10 presidential elections/midterm elections, there have been 9 times when control of the White House/Senate/House of Representatives has changed. Therefore, the pace of change in the political landscape may be faster than many people expect. In the last 20 years, there have been significant changes in the US political landscape. In 2004, George W. Bush won a second term, and the Republicans controlled the presidency and both houses of Congress. However, in 2006, the Democrats regained control of the Senate and House, and in 2008, under Obama's leadership, they also regained the presidency. Subsequently, the Republicans regained the House in 2010, the Senate in 2014, and the White House in 2016 under Trump's presidency - 12 years later, the Republicans had another big win. But then the Democrats won the House in 2018, and in 2020 they won the presidency back, and after the results of the Senate runoff elections in Georgia were announced, they also gained control of the Senate. In 2022, the Republicans won back the House, and in 2024 they regained the presidency and the Senate (at the time of writing, the Republicans were just a few votes away from winning the House election). Allen said, fundamentally, the key is that political turmoil has been intensifying in recent years, making 2024 a bad time for current presidents around the world. Although the changes in the current political landscape may seem drastic, the situation could quickly change back and forth. Allen pointed out that these increasingly frequent changes in political power contrast sharply with the decades after World War II, when the party combinations of the US President/Senate/House of Representatives usually remained unchanged for 4 to 8 years. This article is from "Metaverse NEWS", written by Xiaoxiang; GMTEight editor: Liu Jiayin.