What Do Trump's Cabinet Designees Tell Us?

With another 7 weeks before the beginning of the new administration, the president-elect has now made clear his choices for the key roles in his economic team. We can now draw some conclusions on what direction policy will likely take in his new Administration. 

Let me begin by saying that his choices suggest to me that Trump will likely make a good attempt to enact the agenda he articulated during his campaign. Specifically, I think it’s realistic to expect that he will look to pursue an industrial policy that seeks to encourage domestic manufacturing, renegotiate major trade agreements, reduce tax rates and reform the tax code. His choices suggest that he does not intend to hand over the reigns to subordinates, but rather people who are likely to be less independent than many expected.

Given the fact that the Republicans now have control of both the congress and the presidency, it’s realistic to expect that most of the new president’s appointments should be confirmed by the senate. 

But, this does not mean that the appointments won’t face come challenges. Each appointee will go through committee hearings and questioned by Democrats. And it’s also important to note that Trump will continue to face continued hostility from most of the major media outlets, including the financial media (in particular, the Wall Street Journal, Bloomberg and CNBC.) This can be attributed to Mr. Trump’s history and style, but also due to substantial ideological disagreements on issues of trade and regulatory policy that he has with financial industry leaders in the media and in business. Trump also faces substantial resistance from members of his own party who strongly opposed him in his rise to power and who have relative security in their positions (e.g. Sen. Lindsay Graham of South Carolina and Megyn Kelly at Fox News.)

That having been said, the following appointments suggest significant changes are coming.

WILBUR ROSS, SECRETARY OF COMMERCE

Ross is a highly prominent hedge fund manager and frequent contributor at CNBC. A billionaire, his background is largely in using leveraged buyouts to turn around distressed businesses and he had a strong association with the coal industry. While Commerce Secretary has often been a somewhat irrelevant role, his choice indicates there’s strong reason to believe that Ross will be a major player and spokesperson for the administration. Ross, like Trump, is known for his some heretical views on trade policy - where he’s argued that a large trade deficit is a major concern and an indicator of unhealthy trends, something that’s a fairly rare perspective among mainstream Republicans. Ross has not held positions in government previously, but his frequent public comments have suggested that he will also favor an agenda of  bilateral trade agreements, as opposed to regional ones like the Trans-Pacific Partnership which dominated the Obama Administration’s agenda for the last few years.

STEVEN MNUCHIN, SECRETARY OF THE TREASURY

Mnuchin was a virtual unknown before having taken over as head of Trump’s campaign finances. A former Goldman Sachs banker (something that has been endlessly observed by Trump’s opponents), he also has an extensive and varied history in business, including working as a spectacularly-successful Hollywood producer and in the mortgage business. While little is known about Mnuchin’s views, his comments so far have given some guidance; Specifically, he’s indicated that the administration will pursue a tax overhaul that will be largely revenue-neutral, with simplification and elimination of deductions offsetting cuts in rates. 

What Mnuchin’s selection largely indicates to me is that Trump intends to exert a highly active role over Treasury policy and Mnuchin is expected to be a loyal subordinate. 

JEFF SESSIONS, ATTORNEY GENERAL

This will be Trump’s most controversial pick because he represents the far right on most issues related to immigration, drug policy and most social issues. Sessions will be leaving one of the safest seats in the US senate and enjoys a position of independence of power that’s far greater than any of Trump’s other designees so far. This should be encouraging to (but not completely reassuring of) those who are concerned that Trump will use the executive branch in a highly personal way to strike out at his enemies.

Less examined is Sessions’ views on economic issues, which will play some role in his position. Notable is his opposition to the Bush Administration’s 2008 Troubled Asset Relief Program (a.k.a. bailout of the banks) and his 100% rating by the National Federation of Independent Businesses. It’s safe to assume that Sessions will be largely favorable to business interests - particularly those of small companies. 

WHAT DOES ALL THIS MEAN FOR TAXES?

There exists an opportunity, unseen in nearly thirty years, for a widespread overhaul of the tax code. While meaningful reforms were passed in 2003, the last time the code was meaningfully overhauled was in 1986. There is widespread consensus that an overhaul is preferable and most of what has been suggested is just that. More so, the new president will likely be able to get reforms fairly easily through the congress. What Trump has proposed would mean that, by most analyses, significant cuts for most clients’ (and most Americans) taxes. Particularly significant is the proposed elimination of the Alternative Minimum Tax (AMT). However, secretary - designee Mnuchin has also stated that the administration does not intend for the reforms to translate into an “absolute cut for the upper class.”

The experience of the 1986 cuts was that a major overhaul will result in both winners and losers. For some clients, there will undoubtedly be major implications - as there were especially for real estate investors in the wake of 1986. Most notably, Trump’s agenda would limit deductions to $100,000 for single filers and $200,000 for married. It’s reasonable to expect that certain communities, like real estate investors, will find the administration’s legislative goals are highly aligned with theirs, where others (perhaps venture capitalists and hedge fund managers) might not see their interests well represented.

At present, and most obviously, the most substantial tax cuts would emerge would be the cutting of the corporate tax rate from 35 to 15%, which would apply (according to the campaign) to small businesses as well. This would be a huge cut for small businesses and would likely have significant long-term impact on the self-employed and those in partnerships. It seems likely that many client’s in unusual tax arrangements will need to adjust their tax strategy accordingly.

What if Clinton Wins?

Is it a third Obama term or something entirely different?

Hillary Clinton has been the favorite to win the presidency for most of this election cycle. Recent polling reinforces that perspective. Indeed, if the most recent polls are to be believed, Secretary Clinton looks to win in a landslide and the Democrats will establish a majority in the Senate, while increasing their number of seats in the House. While much of her campaign has sought to capitalize on the general popularity of President Obama, there are some meaningful differences in both circumstances and policy that will mean certain departures from the status quo. 

THE TECHNOLOGY SECTOR WILL LIKELY CONTINUE TO BENEFIT FROM THE CURRENT ENVIRONMENT

One area unlikely to change is the technology sector. While Secretary Clinton has made some statements in the past about her concerns regarding the “gig economy” and the labor practices of certain technology companies like Uber, she’s unlikely, I suspect to upset a relationship that’s been highly beneficial to the Democrats and which has been one of the strongest points in the US economy. This generally means a more favorable environment towards mergers and acquisitions, and a continued soft approach towards labor issues. The net result is continued profitability and favorable trends in terms of valuation. In particular, a Clinton presidency is likely to be good for social media companies. (Although many of the industry’s internal forward challenges still remain…)

A MORE HOSTILE ENVIRONMENT FOR THE TRADITIONAL ENERGY SECTOR IS ALMOST GUARANTEED

The same cannot be said of the energy sector. While unlikely to be able to reform the tax code in a meaningful way without control of the House, and somewhat limited by Bush era laws that limit the federal government’s ability to regulate energy production, there are several ways that the executive branch can create a more hostile, less-profitable environment for traditional energy firms. And it is likely to do so; While similar in rhetoric to the Obama administration on energy and climate change, I think the Clinton administration would be more aggressive, and overall, energy investments look less attractive regardless of the specifics. Low energy prices and increased international concerns about climate change create a “double-whammy”; and should the Democrats control the Senate and the presidency, they can ratify the Paris Climate Treaty and pursue an agenda regarding energy with fairly little political consequence. All of this points towards a less-attractive environment for virtually all forms of oil and coal, and most likely natural gas as well. 

FINANCIAL SERVICES FIRMS ARE LIKELY TO SUFFER AS WELL

Americans of all political orientations and socioeconomic backgrounds seem to harbor an intense hostility towards the financial services sector in the wake of the financial crisis of 2008-2009. Under the Obama administration, the financial sector was treated with some degree of caution in the first two years owing to the dramatic changes brought on by the Dodd-Frank Act and a sense of it’s fragility. In subsequent years, the administration was limited by GOP control of both houses of congress. Despite receiving extensive support from the financial services sector, I don’t expect the history of close financial ties with the Clintons to make much of a difference for publicly-traded financial firms. The presidency - particularly one that shares the same party as the majority in the Senate, with it’s power to approve appointments to various agencies, wields tremendous influence over financial services’ profitability and growth prospects. I would expect the effect to be negative on both, with the exception of investment banks with little or no exposure to consumer finance or products.

MUNICIPAL BONDS ARE LIKELY TO FARE BETTER UNDER A CLINTON ADMINISTRATION

For the same reasons that GOP dominance of the federal government would be bad for the municipal bond market (potentially), Democratic leadership is likely to be a net positive. (For those who didn’t read “What if Trump Wins?”, let me summarize by saying that the health of the municipal bond market is generally more important to Democrats.) Clinton has made a significant chunk of her real estate agenda centers around ‘Mortgage Revenue Bonds’ issued by municipalities to subsidize low to medium income borrowing. To summarize; I think municipal bonds (particularly high yielding ones) are more attractive should Secretary Clinton win.

DEFENSE IS A WILD CARD

Whether we will see an uptick in defense spending is a difficult call. While my general feeling was that a Trump administration was unlikely to be good for publicly-traded defense stocks, Secretary Clinton seems to be willing and interested in projecting American power overseas than her predecessor. It’s no small secret that underinvestment in military hardware, and advances in technology have led to a loss of American leverage in international affairs and this is one of the few areas where there is bipartisan support. While defense contractors have generally faired well over he last few years, valuations remain reasonable. Demand and current trends in naval and aerospace technology would likely benefit Lockheed (LMT), Raytheon (RTN) and General Dynamics (GD), in particular.

IN SUMMARY, ITS PROBABLY ADVISABLE TO REDUCE EXPOSURE TO ENERGY AND FINANCIALS ARE NOT ATTRACTIVE

While the outcome of the election is by no means certain, and I remain reluctant to say with confidence that Secretary Clinton will win, it seems advisable to review clients’ exposure to energy, in particular. It’s a notoriously volatile sector and unlikely to give us much room in the wake of a Democratic ‘landslide’ (defined in this case as a takeover of the Senate and a clear win by Clinton.) Accordingly, I am inclined to liquidate energy stocks and financials in the coming weeks ahead of the election.

As always, please don’t hesitate to call!

Best, Mike