A “black swan” is a metaphor created by essayist and statistician Nassim Taleb. Black swans describe unanticipated events that tend to have dramatic and unpredictable effects. There has been a lot said about “black swans” since a flock of them got sucked into the engine of the global economy in 2008 and sent it spinning into a near-death spiral that it hasn’t fully recovered from eight years later. Few black swans have been spotted since – but that doesn’t mean they’re extinct.
The notion that Donald J. Trump would win the Republican nomination for President of the United States went from unthinkable to highly probable in just six months. Virtually no one saw this black swan coming – including the near-flawless, political odds maker Nate Silver who’s been spot-on in the last two US elections. Many still don’t think it is possible that, given his record and demeanor, Mr. Trump could be just months away from taking the helm of the richest and most powerful nation on earth – nuclear arsenal and all.
The nation witnessed similar denial during the housing crash of 2008. That’s when most investors refused to accept the possibility that home prices could go down until it was too late. It wasn’t like everyone woke up one morning and decided to collectively freak out. The signs were there – but folks refused to see them. Housing collapsed the same way Ernest Hemingway describes going bankrupt in his classic novel The Sun Also Rises: “gradually, then suddenly.” Trump is winning the same way.
As investors, it behooves us to understand the Trump phenomenon to give us a better understanding of its potential effects on the markets – and our portfolios – over the coming year.
Globalization Continues to Disrupt
We believe the culprit behind the housing collapse of 2008 and the unsettled American Presidential election of 2016 is the same. Prior to the housing collapse massive amounts of Chinese buying caused the price of US government notes and bonds to soar and their yields to sink. This made US mortgages cheaper than they would have been and added air to the bubble that was rapidly inflating. When that bubble burst, it set off the greatest economic catastrophe since the Great Depression.
Globalization, aided by lightning-fast Internet speeds and ever-increasing processing power, has changed the game for everyone, rendering classic economic theories, developed in the age before computers, virtually useless as tools of both prediction and policy. Neither the Austrians nor the Keynesians have been able to figure out what’s been going on – nor do anything about it.
What hasn’t changed are the emotional components of all markets: fear and greed. Technology enables us to act upon these primal forces instantaneously, with little time for thought or reflection. Computers, armed with algorithms thousands of times faster than we are, anticipate our actions based on price alone, buying and selling ahead of emotions we haven’t fully felt yet. This exaggerates market moves in both directions.
Modern technology means decisions on the other side of the world now have instantaneous effects. This can cause huge market swings in a compressed time frame. The Swiss Franc soared nearly 24% overnight when the Swiss National Bank abandoned its peg to the euro early last year. A similar reaction in the stock market last August caused some stocks, mutual funds and ETFs to shed 30% or more in a matter of minutes. We expect this kind of volatility to stay with us for a while, growing worse over the next few months.
Forget the Culture Wars: It’s the Economy Stupid
Globalization is also stirring the passions of Trump (and to a lesser degree, Bernie Sanders) supporters. Middle-class Americans have been losing ground in lockstep with the rise of China and other export-driven nations. Free trade may cause production to become more efficient, making products cheaper and marginally better. But it also comes with a cost.
Making the global economic pool bigger so more people can swim only works for everybody if you add more water. The addition of China to the global economy made the pool a lot larger. It is going to take a long time to fill it up, even with decent global growth. Eight years after being decimated by the 2008 housing crash, “Give us more time…” is an excuse American middle-class voters do not want to hear.
Has free trade made the world better off? It has, but that hasn’t stopped the tide from going out for many. The losers know why they are losing and are tired of it. This is why Donald Trump’s focus on winning, his seemingly xenophobic stance on immigration and his call for building a wall on the Mexican border resonate with so many voters.
American exceptionalism has been drilled into citizens since childhood. Americans have internalized the “American Dream” in which anyone can succeed if they are given the right tools and work hard enough. Globalization has shaken that dream to its foundation. The high personal costs borne by those losing their jobs and middle class status to a new factory in Shanghai or Juarez have taken their toll. For the first time in history, American children might not be better off than their parents.
Many American voters are pissed off at free trade and what they believe is a playing field rigged against them. They are tired of being on the losing end of the economic equation. This is the reason Trump and Sanders have been so successful. It is also why Republican voters, even evangelicals, are willing to look the other way on the loss of “traditional values” like marriage and right-to-life – just like The Donald.
The culture wars will not decide this election. The economic war will. The Republican establishment didn’t see Trump coming because they are not the ones taking fire on the front line. Instead, the Republican ruling class spends their time close to Washington DC and Wall Street where the spigots of the Fed’s magical money machine have been guaranteeing their good fortune since the bailout. They are unaware of the pain their free market policies have caused.
The front line, middle class voter doesn’t know John Galt from John Doe and certainly doesn’t give a rat’s ass about free markets or libertarian ideology. Facing another assault on income and dignity, and tired of beating another retreat from their American Dreams, these voters want a true General – someone who can fix things and fix them fast – a Patton-like leader who will kick ass, take names and offer no apologies.
Who can blame them?
Deny all we want, but this is ultimately why the black swan with the orange hair has not only sprouted wings, he is flying high. And he could win…
It’s Never Too Late to Diversify
The US hasn’t seen such extremes in presidential candidates in a long time. Consequently, we suggest investing accordingly, with emphasis on proper diversification across all asset classes. Add High Frequency Trading to an American presidential election that is getting crazier by the day and you have the formula for even more volatility. There is no telling where, and when, the next major market dislocation will occur.
Individually managed futures accounts have a history of smoothing the performance of portfolios heavy in stocks and bonds – especially during periods of crisis. To find out more, download our free booklet and accompanying video on managed futures – Opportunities Outside the Stock Market – today.
(Note: Check our website in a week or so for Part 2 of this Blog. We’ll take look at the potential ramifications of a black swan Trump victory and discuss which market sectors could be impacted the most.)
The RMB Group
222 South Riverside Plaza, Suite 1200, Chicago, IL 60606
This material has been prepared by a sales or trading employee or agent of R.J. O’Brien and is, or is in the nature of, a solicitation. This material is not a research report prepared by R.J. O’Brien’s Research Department. By accepting this communication, you agree that you are an experienced user of the futures markets, capable of making independent trading decisions, and agree that you are not, and will not, rely solely on this communication in making trading decisions.
DISTRIBUTION IN SOME JURISDICTIONS MAY BE PROHIBITED OR RESTRICTED BY LAW. PERSONS IN POSSESSION OF THIS COMMUNICATION INDIRECTLY SHOULD INFORM THEMSELVES ABOUT AND OBSERVE ANY SUCH PROHIBITION OR RESTRICTIONS. TO THE EXTENT THAT YOU HAVE RECEIVED THIS COMMUNICATION INDIRECTLY AND SOLICITATIONS ARE PROHIBITED IN YOUR JURISDICTION WITHOUT REGISTRATION, THE MARKET COMMENTARY IN THIS COMMUNICATION SHOULD NOT BE CONSIDERED A SOLICITATION.
The risk of loss in trading futures and/or options is substantial and each investor and/or trader must consider whether this is a suitable investment. Past performance, whether actual or indicated by simulated historical tests of strategies, is not indicative of future results. Trading advice is based on information taken from trades and statistical services and other sources that R.J. O’Brien believes are reliable. We do not guarantee that such information is accurate or complete and it should not be relied upon as such. Trading advice reflects our good faith judgment at a specific time and is subject to change without notice. There is no guarantee that the advice we give will result in profitable trades.