Three things you don’t know about (investing in) America
I’ve lived in the United States, on and off, for around a third of my life (and have the accent to prove it). So when I recently returned for a visit after being> READ MORE
I’ve lived in the United States, on and off, for around a third of my life (and have the accent to prove it). So when I recently returned for a visit after being> READ MORE
Rarely does it make any sense to talk about an asset appreciating by 500 percent. In this case – for gold, today – it isn’t as extraordinary as you might> READ MORE
Last November, U.S. presidential candidate Donald Trump said, "The TPP [Trans-Pacific Partnership] is a horrible deal… It's a deal that was designed for China to> READ MORE
The possible future president of the United States knows how to get what he wants. And he’s told us how. In 1987, likely U.S. presidential nominee –> READ MORE
Late last week, a man who’s very likely going to become a U.S. presidential candidate suggested that the U.S. government might consider negotiating a partial> READ MORE
Developed markets and emerging markets have long been on opposite sides of the investment world. Few investors realize it, but that’s no longer the case. And the> READ MORE
Donald Trump won’t become president of the United States. But what if he does? Trump’s “Make America Great Again” message has continued to play well with a> READ MORE
I’ve lived in the United States, on and off, for around a third of my life (and have the accent to prove it). So when I recently returned for a visit after being away from the United States for nearly a year, I was struck by three things…
1. Living is cheap: Maybe I experienced reverse sticker shock because I live in Singapore, the world’s most expensive country. But even ignoring that, in much of the U.S. (outside of the big cities on the coasts and a few other spots), things are remarkably inexpensive.
Land is plentiful and real estate is relatively cheap. Cars are barely taxed (putting a car on the road in Singapore, thanks to taxes, can easily cost four times what it costs in the U.S.). Food, at the grocery store or at McDonalds, is cheap. Wal-Mart and its consumerist cousins deliver an extraordinary array of goods at very low prices (as the first part of Walmart’s advertising slogan asserts, “Save money”).
So what? A lot of America’s cheap stuff is made abroad… in Asia, as well as in other parts of the world. We’ve written about rising anti-globalisation around the world, from Donald Trump to Brexit. Launching a trade war with China is a stated policy objective by a major presidential candidate in the U.S. The world’s fifth-largest economy recently decided to leave the European Union, which is the world’s largest trade bloc. The Trans-Pacific Partnership, a trade deal that would connect 12 Pacific Rim countries and 40 percent of world GDP, is under fire and looks increasingly unlikely to be approved by the U.S.
The American consumer – and, as we’ve written before, Asia – stands to be the biggest loser from this trend. Stuff in America will no longer be as cheap, and American consumers’ fascination with buying more things – which for years has been one of the key engines of global economic growth – will lessen. That will hurt economic growth all around the world.
2. Things are falling apart: Whether it’s roads, bridges, trains, buildings, water or airports… America is crumbling. You see it in city centres, on the highway or coming and going.
The American Society of Civil Engineers in 2013 gave the country a D+ rating in its report card of America’s Infrastructure, which uses a scale from A (very good) to F (horrible). The barely passing grade reflects the dire state of America’s infrastructure and the pressing need for modernisation. The group estimates that US$3.6 trillion needs to be invested into U.S. infrastructure by 2020 just to reach acceptable levels.
So what? The United States needs an epic rebuild to arrest its physical decline. It’s not a question of aesthetics, but of efficiency and safety. This matters because productivity growth will be even more out of reach if declining infrastructure means it’s more expensive and time-consuming to move products or people from one part of the country to another – or if basic services stop working.
For example, entire lines of the Washington, D.C. metro are closed for many months for extensive repairs – causing enormous dislocation to the people and businesses that rely on public transportation.
The problem with infrastructure is that it’s not as exciting to talk about as terrorism, immigration or gun control. And its payoff is fuzzy and in the distant future. But it’s more important than many other issues that get a lot more air time. If bridges crumble, if sewer pipes start disintegrating, if tap water becomes unsafe, or if too many roads need fixing… the U.S. will face even bigger economic and social challenges.
Much of the infrastructure in the so-called developing world is light years ahead of that of the U.S. This has been a big driver of economic growth. And it’s also laying the groundwork for higher baseline growth – and productivity – for the next few generations. That China’s economic growth (however doubtful the statistics may be) is, despite its recent slowdown, almost 3 times that of the U.S. (and 3.5 times that of Europe), is in part because of its enormous investment in infrastructure in recent decades.
3. No trust: As shown below, just 35 percent of Americans trust the national government (in 2014). That was the second-lowest level (after South Korea) of the world’s 20 most developed countries, as reflected in the United Nations’ Human Development Index. (Singaporean citizens had by far the highest level of trust in their government.) More recently, the two leading contenders to become the next U.S. president suffer from historically high unfavourable ratings among potential voters.
So what? High levels of distrust in government institutions could be interpreted as a sign of a healthy skepticism about the role of government in society and the economy. But declining trust in institutions or government in the U.S. is a long-term trend. Nothing suggests that this trend is going to change course anytime soon.
Over the long term, the rule of law – which ensures that contracts are enforced, that regulations don’t change overnight, and that the place where a business operates is more or less safe – falls apart if people don’t trust their government. Creating rule of law in a place where none exists can take generations, as many emerging markets have found.
The U.S. isn’t about to lose its status as one of the best places in the world to do business, and it will continue to offer its residents one of the highest standards of living of any country. But given enough time, distrust in government will eat away at the foundations of these achievements.
None of these factors changes the fact that the United States continues to be the economic, cultural and social envy of much of the rest of the world. But they don’t bode well for America remaining at the top of the heap for generations to come.
Rarely does it make any sense to talk about an asset appreciating by 500 percent. In this case – for gold, today – it isn’t as extraordinary as you might think.
A lot of investors dismiss gold as jewelry. And they dismiss “gold bugs” – investors who believe gold is the answer to all financial ills and is the key to surviving the impending financial apocalypse (in any era or decade) – as slightly crazy.
But gold bugs haven’t always been wrong. In 1971 gold traded at US$35. By the end of that decade, gold touched US$850. That’s a 2,300 percent gain in the 1970s. Meanwhile, for stock investors in the west, the ‘70s were pretty much a lost decade with lots of volatility, but flat returns.
The world didn’t end in the 1970s, but double-digit inflation, oil price shocks, a weak dollar, and political instability made investors fearful and nervous. With rising fear and uncertainly investors bought more gold, since it is a tangible store of wealth. As the ‘70s drew to a close, people stampeded to own it.
It happened once – and it could happen again.
The current gold rally bears some remarkable resemblances to what happened to gold prices in the ‘70s. For example:
While the specific economic problems of the ‘70s in the west – inflation, recession, oil crisis – were different than today, there are broad parallels between now and then. In 1979, then U.S. President Jimmy Carter talked about a “crisis of confidence” in government and the future. This erosion of confidence extended to Carter himself – he lost the 1980 election to Ronald Reagan.
And what was Reagan’s campaign slogan in 1980? “Make America Great Again” – the same slogan that Donald Trump has borrowed as he taps into populist anxiety eerily similar to that of the ‘70s. Today’s crisis of confidence is a global phenomenon, extending from Washington to London to Beijing. The ‘70s crisis of confidence reached a boiling point in 1979 – when, not coincidentally, gold surged. We could be on a similar trajectory today.
When the U.S. abandoned the gold standard in August 1971, the U.S. Federal Reserve took on an expanded role managing the U.S. economy. The Fed at the time adhered to the Keynesian school of economic thought. This theory, named after British economist John Maynard Keynes, states that growth in the money supply will increase employment and economic growth.
So when unemployment in the U.S. accelerated in the early ‘70s, the Fed and other global central banks responded by printing more money. But it didn’t work. Instead, the world experienced “stagflation,” a combination of stagnant economic growth and rising inflation. Then to help control inflation, central banks raised interest rates. In 1971, the U.S. Fed funds rate was under 4 percent. By the end of the decade it was over 13 percent.
Today, we are seven years into another central bank experiment that doesn’t seem to be working. The world is again facing stagnant economic growth, but inflation is not the problem – deflation, or falling prices, is a real possibility. To combat this, global bankers have aggressively expanded the money supply and lowered interest rates.
Some countries now even employ NIRP – negative interest rate policy. So, not only is the U.S. Fed funds rate at historic lows (about 0.4 percent), but may governments’ bonds pay negative interest.
Negative interest rates silence a typical complaint about gold – that it doesn’t pay interest or dividends. But in a NIRP world, at least gold doesn’t guarantee a loss – unlike some government bonds that guarantee you will get less back than what you invested.
The rise and fall of market prices often display patterns that repeat over the years. And we could be seeing that happen with gold prices.
In the 1970s, gold rose from a low of US$35 per ounce in 1971, to a peak of US$180 in late 1974. From there gold experienced a correction, falling nearly 40 percent to US$110 in August 1976. But from that low, gold mounted an historic rally. By June 1978 it was back to its previous high.
Then gold went nearly parabolic, with a frenzied surge to US$850 in January 1980.
It’s fascinating to see that the current gold bull market shares a very similar pattern – to this point – of the ‘70s gold market.
Gold is currently about 26 percent above its November 2015 low. This is equivalent to gold being at US$132 in November 1976. If today’s pattern repeats that of the 70s, gold would peak at around US$6,800 over the next three or four years. The chart below compares the percent change in gold prices of the two bull markets, 1970s vs 2000s.
If history repeats itself, a huge jump in gold prices is coming.
In the current bull market, gold reached an all-time high in August of 2011 of US$1,888, but fell to a low of US$1,056 in November 2015. Is it possible that the November 2015 low marked the end of the correction phase of another long-term gold bull market? Will US$6,800 gold become a reality over the next few years?
It’s possible. But to soar like in the late 70s, gold will have to move into the “mania phase.” This is where gold investors lose contact with economic reality, and chase prices ever higher in a feedback loop of soaring prices, “new era” thinking and greed. Think Tulip Mania in the 17th Century, internet stocks in 2000, and Chinese stocks last year.
In 1979, a second oil spike after years of global energy inflation, in conjunction with global political instability, sent gold investors into a final buying panic which ultimately led to the January 1980 peak in gold prices.
A similar type of economic shock could be the trigger for another massive spike in gold prices.
So is it probable that gold will repeat the historic gains of the 1970s? No. Is it a legitimate possibility? Yes. Conditions are favourable for gold… and getting more favourable by the day.
As we’ve said repeatedly, it’s prudent to hold gold and gold stocks as part of a diversified portfolio. Because if/when the global economy unravels, gold will be one of the few places to hide. It happened in the ‘70s, and it’s looking like it could happen again. The gold bugs could finally be right.
Last November, U.S. presidential candidate Donald Trump said, “The TPP [Trans-Pacific Partnership] is a horrible deal… It’s a deal that was designed for China to come in, as they always do, through the back door and totally take advantage of everyone.”
Trump might be on to something. China will be able to take advantage of one of the biggest free trade deals ever. And it’s going to do it through the back door – as China isn’t part of the TPP.
The TPP, which started to be negotiated back in 2006, is a free trade agreement involving 12 countries including the U.S., Japan, Singapore, Malaysia and Vietnam. All together, these 12 countries account for approximately 40 percent of world GDP and 25 percent of global exports. The World Bank estimates the agreement could raise GDP by an average of 1.1 percent in each country by 2030.
In this U.S. election season, China is a political punching bag. And some people think that the TPP was orchestrated by the U.S. in part to keep China from overtaking it as the number one economy in the world.
But the TPP isn’t popular in the U.S., or with either of the people who are candidates to be the next president of the United States. Donald Trump has said he’ll scrap the deal. Hillary Clinton, who negotiated the TPP when she was the top American diplomat, has said that she wants to improve on the deal, and will likely try to change it.
In order for the deal to be approved in the U.S., it needs to be debated and passed in the U.S. House of Representatives and in the U.S. Senate. President Obama hopes to have the deal approved by Congress before the end of the year. But because it’s an election year, the deal may not be approved until after the November elections.
Recent estimates suggest that China will miss out on US$46 billion in investments and trade per year because it’s being left out of the TPP. But the reality is that China has established several free trade agreements (FTAs) that will allow it to grow without the TPP – and, most critically, some of these deals are with countries that are part of the TPP.
In fact, over the past decade China has developed FTAs with nearly all members of the TPP. In 2006, it signed free trade agreements with Australia and Chile. In 2008, New Zealand and Singapore signed FTAs with China. In 2015, China and ASEAN (Association of South East Asian Nations), which includes TPP members Malaysia, Vietnam and Brunei, struck a trade deal.
What this means is that China has its own side deals with at least 8 of the 12 TPP members. These arrangements aren’t as comprehensive as the TPP, by any stretch. But they are a solid foundation. And because of these, China’s exclusion from the TPP matters less than it would otherwise.
Besides this, the TPP of course does not exclude China from investing in TPP members’ companies. Under the terms of the TPP, a third-party country can invest in, and be involved in the business transactions, of a business located in a TPP member country.
This could help explain why there was a 353 percent increase in Chinese investment into ASEAN countries during the TPP negotiations (from 2006 to 2014).
A good example of this is the surge of Chinese investment in Yun Zhong Industrial Park, in northern Vietnam’s Bac Giang province. So far, China has invested nearly US$1 billion in this one industrial park. And eight of the thirteen companies set up there are from China.
China is also involved in trade deals involving multiple countries that could nearly match the TPP in size.
For instance, China is a leading member of the Regional Comprehensive Economic Partnership (RCEP). This is a trade agreement between the 10 ASEAN countries and the six countries with which ASEAN has existing FTAs – this includes China and TPP members Australia, Japan and New Zealand. This deal is still being negotiated.
China is also developing the One-Belt, One-Road initiative, which is an effort to re-create a modern-day Silk Road. The infrastructure proposed as part of it would more tightly connect the continent of Asia to Europe and parts of Africa. It is estimated that it will end up costing about US$8 trillion. It will allow China to trade more easily with the majority of the world’s population.
To help fund its efforts, China established the Asian Infrastructure Investment Bank (AIIB). The AIIB is designed to rival the World Bank (headquartered in Washington D.C., and widely viewed as a tool of the west). By having a big pool of funds to direct lending to needy countries, China anticipates that it will be able to significantly expand its reach. The AIIB has 57 signatories, including a range of traditional U.S. allies. (The only major countries who haven’t signed are the U.S. and Japan).
China isn’t too worried about being left out of the TPP. Its many trade agreements – with the very countries included in the TPP – keep it insulated from the negative effects of the deal. And it will likely benefit from it via the back door – just like Trump and other opponents of the deal have been saying all along.
The possible future president of the United States knows how to get what he wants. And he’s told us how.
In 1987, likely U.S. presidential nominee – and billionaire, and reality TV star – Donald Trump wrote a book called “The Art of the Deal.” In it, he outlined what he says are his 11 key negotiation strategies.
These aren’t quite investment tips… but they are strategies focused on improving investment outcomes. Here we focus on six of the tactics that Trump lays out that are most relevant to investors.
“I aim very high, and then I just keep pushing and pushing to get what I’m after. Sometimes I settle for less than I sought, but in most cases I still end up with what I want.”
Aiming high while investing can be a good idea, as long as it doesn’t lead you to take on too much risk. What we can learn from Trump’s tactic is to have investment goals – whether they’re long term, short term or something in between. Have a financial plan… and (Trump recommends) be ambitious.
Protect the downside and the upside will take care of itself
“I always go into the deal anticipating the worst. If you plan for the worst – if you can live with the worst – the good will always take care of itself.”
Investors should also plan for the worst-case scenario. The next economic crisis will be the one no one sees coming. You can protect the downside for your portfolio by:
Maximize the options
“I never get too attached to one deal or one approach…I keep a lot of balls in the air, because most deals fall out, no matter how promising they seem at first.”
You also shouldn’t get too attached to one stock or one asset class. If the investment is not working out, sell it and move on. If you like to own gold or real estate, learn more about other options, like the stock or bond markets. Then when gold loses its luster and real estate prices sink, you will be comfortable with some other types of investments.
Enhance your location
“Perhaps the most misunderstood concept in all of real estate is that the key to success is location, location, location… First of all, you don’t necessarily need the best location. What you need is the best deal.”
Real estate investors can take those words to heart. But so can stock market investors. Consider markets or stocks that are being overlooked by other investors, or avoided altogether. That’s often where you’ll find the most attractive investment opportunities.
You can also “enhance your location” by owning stocks outside your home market. It will provide some diversification and can help you earn better returns.
“In most cases I’m very easy to get along with. I’m very good to people who are good to me. But when people treat me badly or unfairly or try to take advantage of me, my general attitude, all my life, has been to fight back very hard.”
If you have been taken advantage of by a less than scrupulous investment advisor or personal banker, one option is – as Trump suggests – fighting back. One way to do this is to raise your complaint to the local financial services regulator. For Singapore, that’s the MAS, and in Hong Kong, it’s the SFC.
Contain the costs
“I believe in spending what you have to. But I also believe in not spending more than you should.”
Investing involves risks that are out of our control. We can limit them, but not eradicate them. But what we can control is costs.
One way to do this is to open a discount brokerage account – and save yourself the expense of a broker. (Click here for our guide to opening a brokerage account in Singapore, and here for the Hong Kong version.)
You can also keep your costs down by investing in low-cost index products. These products, including exchange traded funds and index funds, track a stock index like the STI or the Hang Seng. Plus, they perform better than most professional money managers – at a fraction of the cost. Saving money on investment fees is one of the easiest ways to boost your investment returns.
These strategies have served Trump well. Applied carefully, they’re mostly investment common sense.
Late last week, a man who’s very likely going to become a U.S. presidential candidate suggested that the U.S. government might consider negotiating a partial repayment with creditors. That is, a U.S. government led by Donald Trump might see U.S. government debt as repayment-optional.
According to the New York Times, likely Republican presidential candidate Trump told CNBC, “I would borrow, knowing that if the economy crashed, you could make a deal.” He added, “And if the economy was good, it was good. So, therefore, you can’t lose.”
What we’ve called the “fantasy” that debt issued by the U.S. government is “risk-free” just took a small – and dangerous – step to being proven true.
A foundation of finance is that since the U.S. government can print more money or raise taxes when it needs more cash, the chances of the American government defaulting on its loans is almost nil.
As Bloomberg explained, Trump was suggesting that “he might use his business skills to reduce America’s debt burden by pushing creditors to accept write-downs on their government holdings.”
When he was a businessman, Donald Trump declared bankruptcy four times. In American business, declaring bankruptcy – which often leads to paying creditors only part of what you owe them – is widely viewed as just another tool in the toolbox of capitalism.
In that sense, Trump the businessman viewed debt repayment as optional. He could “make a deal” when his company “crashed”… but if the company grew, “it was good” and debtors could be paid. In any case, the company “couldn’t lose.” But creditors could, as they would wind up getting back a lot less on their loans than they thought they would.
(The title of a 1987 book by Donald Trump was called “Trump: The Art of the Deal.”)
As the New York Times explained, “Such remarks by a major presidential candidate have no modern precedent. The United States government is able to borrow money at very low interest rates because Treasury securities are regarded as a safe investment, and any cracks in investor confidence have a long history of costing American taxpayers a lot of money.”
The price of U.S. Treasuries barely moved on Trump’s comments. This suggests that traders and markets see little chance of Trump breaking the sanctity of the risk-free promise of U.S. Treasuries. “This is stupid and ridiculous and never going to happen,” said one banker quoted by Bloomberg.
But… not long ago, the chances of Donald Trump becoming an actual U.S. presidential candidate were viewed in similarly dim terms. Dozens of political analysts were, just months and weeks ago, absolutely convinced that Donald Trump was not going to become the Republican presidential candidate (a list of some of these confident assertions is here.) So writing off Trump’s unique vision of the U.S. Treasuries market is a bad idea.
Although the U.S. making good on its debt is viewed as sacrosanct, there have been some close calls. In August 2011, partisan infighting in the U.S. Congress nearly resulted in a default on U.S. government debt. During the episode, one-month Treasury bill yields climbed to a 29-month high. That means that, as U.S. government debt was viewed as riskier, investors demanded a higher yield to hold it – and prices of bonds fell. (For bonds, the yield increases when the price falls, and vice-versa.)
Historically, in times of uncertainty investors and traders sell their higher-risk assets, and “flee to safety”. Usually this means U.S. Treasuries, as the only “risk-free” asset. But when U.S. Treasuries themselves are the subject of uncertainty, there’s another asset that has traditionally been a safe haven: Gold. In the summer of 2011, as the political dispute that led to the standoff over U.S. government debt simmered, the price of gold soared 25 percent from early July through mid-August. The next month the price of gold hit its highest levels since 1980.
It wasn’t a coincidence that the price of gold spiked as uncertainty over the notion of “risk-free” became a topic of debate. As we’ve written before, there are lots of good reasons to own gold… and Donald Trump just gave investors another one. If Trump’s candidacy advances, and there is a greater-than-zero chance that the president of the United States views U.S. debt as subject to a deal, the price of gold will soar.
The SPDR Gold Shares ETF, (ticker: GLD on the New York Stock Exchange; code: O87 on the Singapore stock exchange; and 2840 on the Hong Kong Stock Exchange), is one of the easiest ways to get exposure to gold.
What motivated the world’s most “successful” rogue trader
On Friday, we wrote about Jerome Kerviel, the most “successful” rogue trader in history. By placing huge, unauthorised bets on the direction of European markets, he ended up losing US$7.2 billion for Societe Generale (SocGen), one of Europe’s largest banks.
Even if he got away with everything, Kerviel was not going to make much money from all his trading. So, why did he start in the first place?
Part of it may have to do with his background. He came from a working class background. He hadn’t gone to the elite business schools that many of his colleagues had. So he may have felt driven to prove that he fit in with fellow traders.
But there was something else: Failed by supervisors more concerned with profits than traders’ mental health, Kerviel had become a trading addict. As we discussed in a previous article, the brain activity of successful traders is similar to that of someone high on alcohol, cocaine or heroin. A chemical called dopamine floods the brains of winning traders making them euphoric, just like drug users. But when profits turn to losses, the trader is like a junkie in need of a fix – he needs another successful trade to get a dopamine “high.”
Years later, Kerviel admitted to becoming obsessed with winning, as if he was “playing a computer game.” He was quoted as saying that he had experienced pleasure in making “astronomic” bets. Addicted to the markets, he would stay at his desk in front of a quote screen for 16 hours at a time, only answering workmates with a robotic “yes” or “no”.
As we’ve noted in the past, Warren Buffet – considered by many to be the greatest investor in history – has no stock price monitors in his office. He knows that minute-by-minute watching of stock prices doesn’t help with long-term investment decisions. Kerviel, on the other hand, became obsessed with them and this helped cause him to make catastrophic investment decisions.
Kerviel was eventually convicted for breach of trust, forgery and unauthorized use of SocGen’s computers. He was given a three-year jail term in 2010, and ordered to pay back SocGen US$6.3 billion, a sum the bank acknowledges that it will never collect.
After spending less than five months behind bars, Kerviel was given a conditional release in 2014. He continues to appeal his sentence.
In addition to defrauding his employer, Kerviel made all the worst mistakes an investor can make: he was overconfident, used too much leverage, did not have a stop-loss strategy, and he became emotional and obsessive.
The person who lost more money than any other trader ever made the same mistakes we’re all prone to make. We all need to be alert to avoid repeating them, whether we’re trading hundreds, thousands or billions of dollars.
Developed markets and emerging markets have long been on opposite sides of the investment world. Few investors realize it, but that’s no longer the case. And the shift could completely change how markets value risk, and stocks – with big implications for your portfolio.
It used to be that in developed markets (like the U.S., Europe, and Japan), things were comfortable and easy, and there weren’t many surprises. Politics didn’t matter much to share prices. Economic growth was slow and steady, and stock returns were unspectacular but predictable.
Markets were well regulated and easy to trade. Of course you could be a victim of bad brokers. But if you were a little bit careful, and a little bit lucky, you could avoid the landmines.
And then there were crazy emerging markets (like most of Latin America, Africa, and much of Asia), the wild west of investing, where anything could happen. Bad politics could erase years of market gains in a matter of moments. Emerging economies grew faster, but were a lot more volatile.
Stocks could boom one year, and stumble into the graveyard the next. And if there was no rule of law, you could lose everything to corrupt government officials, or on a stock of a company that never existed.
Since emerging markets were a lot less predictable than developed markets, they were viewed as a lot more risky. So for years they’ve traded at a lower valuation (like the price-to-earnings ratio) than developed markets.
That means that for every dollar (or ruble, or peso) of earnings, investors pay less in an emerging market than they do in a developed market. The graph below shows the differences in P/E ratios in different markets over time (the gray area shows how much cheaper emerging markets are than the S&P 500).
But two things are happening that are turning the idea of developed and emerging markets upside down… so much so that the distinction soon won’t even matter anymore.
First, a lot of companies that are listed in developed markets – most notably, the U.S. and London, along with Hong Kong – aren’t American (or British or Hong Kong) companies. Thanks to globalization, General Electric and Vodaphone and HSBC, and hundreds of other big listed stocks, get a lot (if not most) of their revenues from emerging markets. That, and/or they’re dependent on demand in emerging markets.
So, to say these stocks are part of a “developed market” just because they’re listed on one misses the point of the nature of the underlying business. For a lot of companies in a lot of markets, this line between developed and emerging market companies hardly exists any more.
That’s one reason that there’s less of a dividing line between emerging markets and developed markets. The bigger reason is politics.
When I worked for a political risk consulting company a few years ago, we would talk about how an emerging market was one where politics mattered to markets. That meant that personalities (that is, the people in power) were bigger than, and more important than, the institutions those people headed up. Who’s president, what the parliament is doing, what kind of people are making policy – all of that could be the difference between making or breaking a market.
In contrast, in developed markets, institutions (like the judiciary, or a country’s constitution, or the civil service) are supposed to matter more that specific personalities. It’s the institutions that keep things rolling, day after day, regardless of who’s in power. The system survives, and the people at the top don’t really have that much of an impact on most of what goes on.
Today in emerging markets, politics still matter a lot… like in Brazil and South Africa and Malaysia and Russia. Who the president is and what crazy things he’s doing can completely change the business and investment environment.
And bad government can destroy the stock market for years. (Or – rarely – a good government can transform a country in a positive way).
The big change is that developed markets are looking a lot more like emerging markets when it comes to politics. From Germany to Japan to the U.S., politics in many developed markets are a lot more polarised than they’ve ever been before. Different sides don’t want to talk – they only want to yell. And after a while, a strong personality harnesses one part of this polarisation. That’s what can threaten institutions. And that’s a big risk.
The current presidential campaign in the U.S., and the popularity of Donald Trump, is one reflection of this. A few decades ago, politics in developed markets might matter only because of their impact on specific policies or sectors. But in recent years, and now, personalities are becoming bigger than the institutions they inhabit (or which they hope to inhabit). If personalities can change those institutions for the better, it’s a good thing. But it’s a big risk – as the history of many countries in emerging markets has shown.
Markets don’t like that kind of uncertainty. Political risk is a big reason for the valuation gap between developed and emerging markets.
A main reason that a lot of people invest in emerging markets is that they think that over time, the valuation levels (like the P/E) of some emerging markets will rise. As share prices rise, the discount to developed markets would close.
But the opposite could happen: The valuations of developed markets could fall, and close the gap with emerging markets by dropping down to them. Or that discount could remain the same, as valuations of both emerging and developed markets fall – as political risk across all markets rise.
As listed companies become more global in nature, and as politics in many developed markets become more personality-based, that just might happen.
Donald Trump won’t become president of the United States. But what if he does?
Trump’s “Make America Great Again” message has continued to play well with a bigger-than-anticipated demographic of economically and politically alienated American voters. With the celebrity billionaire still at or near the top of many polls, even reasonable people – in the U.S., Asia and elsewhere – have to think about what would happen if the unthinkable happens.
The extended American political season means there’s still a lot of time for voters to get tired of the real estate mogul. To even become a candidate for president, Trump would have to win enough support in a long series of primary elections in different states. He’d then need to be formally nominated at the Republican convention in July.
Only then – if he doesn’t become an independent candidate that’s not part of either of the two major American political parties – would Trump actually be in the run for president, against the Democratic party nominee. It’s unlikely he’d win. But it’s possible enough to consider.
Trump puts U.S.-China trade “reform” at the forefront of his election message. A big element of his message is that the U.S. needs to keep more of what, in his mind, belongs to it. So he’s critical about what he views as an imbalance in the relationship between the two countries. The argument goes that China is taking American jobs, not following the rules of international trade, stealing commercial secrets, and manipulating its currency to gain an economic advantage.
For Trump, the problem partly dates back to China joining the World Trade Organization (WTO) in 2001. He claims Americans have suffered the closure of more than 50,000 factories, and the loss of tens of millions of jobs, because other countries haven’t followed WTO rules. And China has been a big part of this. (Trump does tend to exaggerate, so the figures he uses aren’t very reliable.) Counterfeit goods, the theft of intellectual property, and lax labor and environmental standards are all part of his complaint against trade agreements in general.
Trump has said that one of the first things he’d do as president would be to officially designate China as a currency manipulator – a country that intentionally weakens its currency in order to make its exports cheaper and more competitive. By declaring this, the U.S. could impose duties on “artificially cheap” Chinese products. It could also bring the two countries closer to a trade war, where they’d put tariffs or quotas on each other’s imports and exports. That wouldn’t be good for anyone.
Southeast Asia also comes under the spotlight with Trump’s views on the Trans-Pacific Partnership (TPP). In October 2015, the U.S. government signed the TPP along with 11 other nations, including Japan, Australia, New Zealand, Malaysia, Singapore and Vietnam. The TPP has the goal of making it easier for the participating countries to trade with each other by removing trade tariffs, and lowering the costs of importing and exporting between members.
But in Trump’s eyes the TPP is “a terrible deal” for the U.S. China isn’t actually a signatory, but he expects them to somehow join through “the back door and totally take advantage of everyone.” So if Trump does get into office, expect him to either renegotiate the terms of TPP, or even try to scrap it entirely. The signatories in Southeast Asia, hoping to increase trade and grow their economies, could be the big losers in Trump’s ongoing issues with China.
The “Trump Tax Plan” could also affect East Asia. His plan is to cut the U.S. corporate tax rate to 15%, the argument being that the current top rate of 35% pushes companies and jobs offshore. By stressing that the reduced rate is “10 percentage points below China,” again it’s clear where Trump sees the problem – cheap labor in Asia is taking American jobs. His idea is that U.S. companies would no longer need to move abroad to take advantage of lower taxes. This could, in theory, result in less manufacturing being done in Asia by U.S. companies.
Then there’s defense policy. Trump wants a “military of quality, not quantity.” That means reducing troop counts and deploying resources selectively in the Asia Pacific region. His “non-interventionist” foreign policy is based on strengthening homeland defense, while not getting involved in other countries’ disputes. For Asia, that could mean the U.S. would reduce its long-standing military commitment to regional stability. Six decades after the end of the Korean War, the U.S. still maintains 28,500 troops in Korea. But under a Trump presidency that number could fall and South Korea would at the very least have to increase its financial commitment. In his words, “How long will we go on defending South Korea from North Korea without payment?”
There would be obvious economic impacts on countries like South Korea, which would need to increase their existing defense spending. But there’s also the issue of how historic tensions in the region would play out in the vacuum created by a less involved U.S.
It’s true that “President Trump” becoming a reality is still a remote possibility. But, it’s still a possibility – and if fate does take him to the top job, we can expect a presidency less comfortable with Asia’s growing influence and more willing to challenge existing alliances and relationships. That wouldn’t be good for the region, or for investors in the region.
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