Now that I have your attention, isn’t it amazing how one single word such as “Trump” can bring up so much emotion whether positive or negative?
Mr. Trump is the political villain that people love to hate, yet he is the leading candidate to win the Republican presidential nominee and potentially become the leader of the free world.
As the U.S. Republican and Democratic races head into their final conventions to select their presidential nominee, and the race for the White House begins, the political rhetoric and personal attacks are surely to increase in intensity. As a money manager who has been through a few U.S. election cycles, I still get asked every four years, “How will the next president impact my portfolio?” or “Should I sell before the election and wait to see who gets elected before buying again?”
According to a recent study by BMO Capital Markets that looks at annual S&P 500 Index returns since 1928 in election years where a new president must be selected, the U.S. stock market is down an average of 4% in USD terms (note that year-to-date the market is up 3%). However, in all presidential election years, the market is up an average of 7%. So given these interesting statistics should investors be selling their U.S. stocks?
We do not believe so based on the following:
- Although many U.S. politicians make many promises in order to get elected, actually delivering on them is another thing. Getting approval for changes in major laws may require the approval of the House of Representatives and the Senate. Despite the rhetoric of tearing up free trade agreements and implementing trade protectionist policies, these are harder to actually do and may result in tariffs on U.S. exports which could hurt the U.S. economy. The global economy is more interconnected today than in the past and as a result, what happens in the Chinese and Indian economies indirectly impacts the U.S. economy. Today, investment capital has no borders and will flow seamlessly to the highest rate of return adjusted for political and business risk.
- Although in the short-term stock markets may be ruled by political headlines, in the long term they are ruled by economic fundamentals. Although politicians like to take credit for a growing economy and blame a weak economy on the previous administration, the only real economic levers that politicians have are taxes and spending. Currently none of the presidential candidates favour a broad based increase in income taxes (however, there are proposals to increase taxes on the wealthy) nor is there a plan to significantly cut back government spending. Thus, we believe, based on current stated policies by the candidates, that a new president should not have a negative economic impact on the U.S. economy.
- Most importantly, our disciplined investment process is focused on cutting through the political and media noise and seeking the truth. It is for this reason that we have a disciplined process that we diligently follow. Our investment process is the central pillar which guides us in the search for the truth. It is our compass in a confusing and volatile world and it allows us to generate results in a consistent and repeatable manner. Our investment process consists of six fundamental criteria with which we evaluate potential investments: companies with strong competitive advantages, returns generated in excess of their cost of capital over an economic cycle, stable or growing free cash flow, sustainable balance sheets, proven management and trading at a discount to our estimate of their intrinsic value. Companies that do not meet these criteria will not make it into our strategies.
Our decision to trim or sell any of our U.S. companies has always been based on fundamental considerations such as investment thesis, valuation, and growth prospects, not political noise. On the other hand, if stock markets overreact to a potential new president before the actual election or thereafter, we will take advantage of the emotional fear to add great businesses that we believe are trading below their long term intrinsic value.
As Warren Buffet says, "Be fearful when others are greedy, and be greedy when others are fearful".