Tactical Asset Allocator: cash tsunami waits on market sidelines
In the lead-up to Donald Trump's address on Capitol Hill - which was widely touted as taking on the importance of a State of the Union speech - we heard of little else but that the president would have to produce some hard detail on his plans for tax cuts and infrastructure spend to keep the bull run intact.
The speech came and went, albeit in a more presidential and moderate tone than we have come to expect from the new president, but absolutely nothing was learned in terms of the detail and timings of the stimulus measures.
Did the markets mind? Not a jot. They merely turned attention away from the Trump rally and began to focus on the Federal Reserve's clarification on rate hikes. Surely investors should be less sanguine.
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Cuts of 20 per cent in corporate tax could already be priced into stocks, but even when Trump reveals details of his fiscal spending plans and tax cuts, Congress will still have to approve the policy changes and could be blocked by the fiscal hawks who opposed hiking the debt ceiling when the Republicans dominated both houses.
There is so little agreement on the way forward on issues such as border-adjustable tax.
A recent Goldman Sachs note suggests that the difficulty the Republican majority is having with Obamacare could force the lawmakers 'to scale back their ambitions in other areas as well, such as tax reform'.
It has particular credence as the investment bank has an inside line to the White House via former executives sent to advise. The Dodd-Frank Financial Reform Act, for example, could be far harder to roll back than it appears.
The markets are having little of it, however. Even concerns regarding sluggish wage growth, the low labour participation rate, low productivity and technological challenges such as artificial intelligence have been assimilated as good news that will prevent the Fed from raising interest rates too swiftly.
It could be that the main factor keeping the markets on course is the knowledge that a wall of cash is waiting on the sidelines for a deployment opportunity.
When there are plenty of buyers just waiting for a sell-off, and the alternative is zero from cash or negative bond returns, investors are blind to all but the good news.
There has also been a welcome uptick in corporate earnings, which are now predicted to rise 12 per cent from last year - a major improvement on the declines in 2015 and 2016.
So, despite the Russian revelations, resigning ministers, tensions with North Korea over the missile launches, a US carrier fleet patrolling the South China Sea and Trump's stance on Iran and Israel, not to mention his twitter outbursts and his attacks on the media, the S&P 500 continues to advance.
It now trades at about 27 times earnings, well above its long-term average of about 16.
If we are right, and the markets are being buoyed by the cash sloshing around the system looking for a home, then some value opportunities could be lifted by strong investment inflows.
Europe is currently attractive on valuation measures relative to other developed markets, but its appeal is obscured by the prospect of the Dutch, French, German and Italian elections, as well as Brexit and the Greek debt restructuring.
Emerging markets are also attractive, with renewed growth from China, growth in key export markets, firmer commodities prices, moderate expectations for US rate hikes and renewed enthusiasm for the Bric theme.
Brazil could be a particular beneficiary of rising demand for commodities from China and Europe, and the promised infrastructure boom in the US.
There has also been a lot of hype about Russia, where markets have gained around 90 per cent over the year as the oil price rose higher.
Investors should always be aware that the fund management industry is in the business of gathering assets, but Trump's campaign theme of closer ties with Russia has led to speculation that the sanctions imposed after the Ukraine crisis could be relaxed.
These sanctions were intended to target individuals and companies that played a role in decisions about the Ukraine, but in reality they frightened investors and have made the movement of money in Russia very difficult.
Many have been deterred by Russia's creeping nationalism, as 70 per cent of the economy is state-owned, complicated by accounting regulations and legislation, and various 'strategic' sectors have been closed to foreign investment.
But if the oil price stays around $55 a barrel, and the drop in inflation from 17 per cent to 5 per cent translates into a real boost for consumer spending, the market may have further to run.
The loosening of Russia's monetary policy could provide a real tailwind, and we quite like JPMorgan Russian Securities for a play on this theme.
The portfolio is light on bonds but it is again hard to know where there is value.
Investors with a very long-term view could do worse than follow the big final salary pension schemes that are beginning to mature and looking to match their cash flows with income-generating real assets such as long lease property and infrastructure debt.
Infrastructure has already been given a fillip by Trump's promises on spending, but long lease assets have not been driven up to the same degree and are anyway a more reliable source of income.
One investment trust that invests in long property leases of 15 years plus is Ground Rents Income trust, which owns a diverse portfolio of commercial property spread across the UK.
This could be a good opportunity for those investors who are nervous about current equity valuations and are looking for income over a long horizon.
We are therefore going to sell our 3i holding, where much of the Trump rhetoric on infrastructure development is probably already in the price, and replace it by Ground Rents Income trust.