"Trump Trade" Fully Explained

Abstract

The 2024 US presidential election is about to come to an end. How to assess the market impact and possible outcomes of the "Trump trade" for reference.

(I) How has "election trading" been interpreted in history? Trading in the fourth quarter of the election, unexpected events, and subsequent policy advancement

Looking back at history, "election trading" usually goes through three stages: The first stage, when one party's winning advantage rapidly expands/narrows, "election trading" will start early. The US presidential election is divided into party primaries and the general election. The primaries usually end around the end of August, when the candidates and their policies become clearer, and the market gradually starts trading on the "policy differential."

The second stage, after the election, the market prices in the "unexpected" election results. Since 1936, elections can be categorized into four scenarios:

1. Reversal of outcome, significant market reversal in the following 3 months, like in 2016; 2) Winning with high suspense, market continues in the previous direction for about 1 month, like in 2004; 3) Winning with low suspense, market continues for about 10 trading days after the election, like in 2020; 4) Winning without suspense, market reaction after the election is weaker, like in 1996.

The third stage, the implementation/failure of core policies, can also lead to a restart/reversal of previous trading. Taking Trump's first term as an example, in March 2017, Trump's first policy on healthcare reform failed, leading to a "reversal" in the Trump trade. It was not until early November 2017, with the successful advancement of the tax reform bill, that market confidence in Trump's policies was restored, and the Trump trade resumed.

(II) How does the market conduct the "Trump trade"? US dollar biased towards strength, US stocks, copper biased towards long positions, US bonds, gold biased towards short positions

Starting from the market trading itself, the "Trump trade" can be observed from three perspectives: 1) Focus on the performance of major asset classes during the two debate periods. Trump clearly had the upper hand in the debate on June 27, but lost on September 10; 2) The correlation between Trump's winning advantage over the past 90 trading days and the performance of various assets. 3) The performance of major asset classes during the Trump trade in November-December 2016.

Overall, in the "Trump trade," the upward movement of US bond yields, the strengthening of the US dollar, and the rise in Bitcoin have a higher degree of certainty. Trading is biased towards long positions in US stocks and copper prices, while biased towards short positions in gold prices, with uncertain impact on oil prices. Looking at the results of previous market trading, the Trump trade is not necessarily "bearish on copper and oil, bullish on gold," which may differ from judgments based on policies.

Beyond consensus: 1) Regarding copper, Trump does not completely restrict the new energy industry. Stimulus measures such as tax cuts and reindustrialization will also boost demand for copper. 2) Regarding gold, Trump's policies pushing up US bond rates are bearish for gold prices, while his geopolitical policies may ease geopolitical risks. 3) Regarding oil, stimulus measures such as reindustrialization may to some extent weaken the potential bearishness of supply (III) The "Trump Trade" in the equity market? Overall bullish for the market growth, focus on finance, energy, and manufacturing

For the US stock market, structurally, the "Trump Trade" is generally positive for market growth. From early June to mid-July and since mid-September, the probability of Trump's victory has significantly increased. During these two phases, the US stock market, especially growth stocks, performed well. Logically, Trump's policies such as tax cuts and technology favor the growth sector, while his policies exacerbate the upward risk of US bond yields, potentially putting pressure on small-cap stocks.

Taking into account the excess returns on debate days, excess returns at various stages of the election, and the correlation with Trump's winning rate over the past 90 trading days, the potential impact of the "Trump Trade" on industries can be assessed: 1) Relaxation of financial regulations, benefiting banks, etc.; 2) Traditional energy development, benefiting energy equipment, etc.; 3) Corporate tax cuts, benefiting electronic devices, etc.; 4) Weak support for clean energy, negative for electric utilities, etc.

In addition to the above industries, the following categories outside the consensus are worth paying attention to: 1) Policies such as Trump's reindustrialization, supporting industries like air transport logistics, building materials, automobiles, etc.; 2) Relative to Harris's tax cuts and subsidies for low- and middle-income groups, Trump's tax policies benefit the wealthy more, which may have a negative impact on essential consumption, healthcare, etc.; 3) Trump's geopolitically contractionary policies, negative for defense industry.

(IV) The potential interpretation of the "Election Trade"? Short-term unexpected results, mid-term policy impulses, long-term fundamentals

Currently, the balance of trades has tilted towards Trump; if Trump is elected, the continuity of trades may be limited, while if Harris wins, trades may reverse significantly. Factors such as mail-in voting continuation and urban-rural population migration after the pandemic still bring uncertainties to the election. If Trump is elected, the market may see a slight continuation of trades similar to 2020; however, if Harris wins, the market may experience a significant reversal of trades similar to 2016.

Looking at the mid-term, the smooth progress of policy proposals may directly affect the reversal or continuation of the election trades in the third stage. 1) In terms of pace, during his first term, Trump swiftly implemented policies in areas such as immigration, trade, and regulation through executive orders, but tax policies were slower to materialize. 2) In terms of implementation possibility, Trump's policy fulfillment rate in his first term was only 23%, but it was higher in the trade sector.

In the long term, the impact of elections on the market may mainly be realized through their influence on the fundamentals. This year's election results can be divided into four scenarios: ① Republican Party comprehensive victory (49%), ② Trump + divided Congress (14%), ③ Democratic Party comprehensive victory (12%), ④ Harris + divided Congress (21%). In terms of positive economic impact: ③>①>④>②.

Main Text

The 2024 US presidential election is approaching, but the impact of the "Trump Trade" on certain assets remains controversial. What is the rightful place of the "Trump Trade" in asset price performance, and what market interpretations may follow after the election? For reference.

I. How has the "Election Trade" historically played out? Unexpected fourth-quarter election trades, followed by policy advancement in trades

Looking back in history, "election trading" usually goes through three stages: the rapid change in the winning advantage of one party before the election, the "surprise" of the election result after the election, and the continuity/reversal of trading determined by policy implementation.

In the first stage, when the winning advantage of one party rapidly expands/narrows, "election trading" will start in advance. The U.S. presidential election is divided into party primaries and the general election. The primaries usually end around the end of August, when the two party candidates and their policies become clearer, and the market gradually starts trading on the "policy differences."

1. Taking the example of the 2004 Bush vs. Kerry election, the main policy differences between the two were their attitudes towards traditional energy and when the Iraq war would end. The shooting incident on September 2nd significantly boosted Bush's chances of winning, and energy equipment and defense military industries also rose in sync. However, after the debate loss on September 30th, the excess returns of the two industries quickly reversed.

2. In 2008, after Obama was formally nominated, his chances of winning continued to expand, and trading around Obama's healthcare reform started in mid-September.

In the second stage, after the election is concluded, the market will price in the "surprise" of the election. By comparing the predictions of the betting markets with the polls, elections since 1936 can be categorized into four scenarios: "outcome reversal," "winning with high suspense," "winning with low suspense," and "winning without suspense."

1. In the case of a reversal, the market performance shows a significant reversal compared to the previous 3 months, with the 2016 election being a typical example; 2) In the case of winning with high suspense, the market will continue in the previous trading direction for over a month; 3) In the case of winning with low suspense, the market's continuity after the election is weaker, lasting only about 10 trading days; 4) In the case of winning without suspense, the market pricing in the early stage is relatively sufficient, and the reaction amplitude and duration after the election are relatively weakest, with the 2020 election being a typical example.

In the third phase, the implementation/failure of core policies will also lead to the restart/reversal of previous trades. Taking 2017 as an example, at that time, under election promises such as tax cuts and trade conflicts, the market's response to the "Trump trade" was "strong US stocks" and "strong US dollar".

On March 25, 2017, the failure of the new healthcare reform bill caused a rapid decline in US stocks and a significant weakening of the US dollar on that day. This bill was the first key bill that Trump attempted to implement, but internal party views could not reach a consensus, and it was withdrawn before the vote in the House of Representatives, causing a significant impact on market confidence and leading to a "reversal" in the Trump trade.

It wasn't until early November that the successful advancement of the tax reform bill restored market confidence in Trump's policies, and the Trump trade restarted during the progress of the tariff bill in 2018.

Taking the Trump trade from 2016 to 2019 as an example, the second and third phases both saw the performance of the "Trump trade".

1. In the first phase, from early September 2016 to November 7, when the primaries were settled until the day before the election, polls and betting odds favored Hillary Clinton, with the S&P 500 index weakening and the US dollar index fluctuating, and the Trump trade had not yet begun.

2. In the second phase, from November 8, 2016, to December 31, the "unexpected" election was quickly priced in, with the US dollar index soaring and the S&P 500 index surging.

3. In the third phase, after the new healthcare reform bill was withdrawn on March 15, 2017, the US dollar index continued to weaken, temporarily reversing the Trump trade; until February 2018, the imposition of tariffs on sections 201 and 232 reignited market confidence in trade policy, the US dollar index continued to strengthen, and the Trump trade resumed.

II. How does the market conduct the "Trump trade"? Strong US dollar has higher certainty, leaning towards US stocks and copper, while leaning towards short positions in US bonds and gold

The current market's interpretation of the "Trump trade" mainly looks at the market from a policy perspective, but the impact of the candidate's various proposals on assets may vary; starting from the market trading itself may to some extent eliminate this divergence.

On one hand, different policy proposals from Trump or Harris may have opposite impacts on certain assets; for example, in the case of the US dollar, Trump's policies such as lowering corporate taxes, increasing tariffs, and supporting industrial production all have strong US dollar characteristics, but he also attempted to promote a "weak dollar plan". From the policies themselves, the trend of the US dollar in the Trump trade cannot be determined On the other hand, the two have certain similarities in some policies, such as both advocating for promoting American industrial production. However, the impact of "policy differences" on copper, cyclical stocks, and other aspects is also difficult to measure. The market provided answers to such questions in the first phase of trading on the "Trump victory".

Perspective 1: Focus on the performance of major asset classes during the two debates. On the evening of June 27th, Eastern Time, Trump and Biden held the first presidential debate, in which Trump clearly had the upper hand, establishing a significant advantage over Biden.

During the debate, the S&P 500 Index, Nasdaq Index surged, the US Dollar Index strengthened, US bond yields rose, LME copper quickly rose, Bitcoin rose, Brent crude oil prices slightly rose, and COMEX gold was under pressure. From the performance of this debate, the "Trump trade" may involve boosting the US dollar, raising US bond yields, bullish for US stocks, copper, Bitcoin, etc., bearish for gold, with a weaker impact on oil prices.

During the debate with Harris on September 10th, Trump was at a disadvantage, and the market trend during this period may be opposite to the "Trump trade". During the debate, under the "Harris trade", the S&P 500 Index, Nasdaq Index quickly weakened after the opening, the US Dollar Index weakened, US bond yields declined, copper and oil prices resonated higher, Bitcoin fell, and gold prices slightly rose.

From the market performance during this period, the policy differences between Trump and Harris still exhibit characteristics of a strong US dollar, raising US bond yields, bullish for US stocks and Bitcoin, bearish for gold, while the contradictory indications for copper and oil prices may be influenced by OPEC's downward adjustment of global oil demand growth expectations for the next two years on the evening of September 10th.

Perspective 2: The correlation between Trump's victory advantage and excess returns. In the past 90 trading days, as the presidential debates began, asset pricing began to consider the impact of "election trading" From June 17th to the present, looking at the correlation between various assets and the Trump win rate in the betting markets:

1. The correlation between the 10-year US Treasury yield, the US Dollar Index, and the Trump win rate is as high as 0.77 and 0.70 respectively. The Trump trade's impact on the rise in US Treasury yields and the strength of the US dollar is the most certain.

2. The correlation between Bitcoin, the Nasdaq, and the Trump win rate is 0.46 and 0.44 respectively, also benefiting significantly from the Trump trade.

3. Brent crude oil, LME copper, and the S&P 500 have a weak positive correlation with the Trump win rate, with differences in interpreting the bullishness of copper and oil from a policy perspective.

4. The price of gold shows a weak negative correlation with the Trump win rate.

Perspective 3: Performance of major asset classes during the Trump trade in 2016. After Trump's unexpected election on November 8, 2016, the performance of various major asset classes reversed significantly, showing typical characteristics of the "Trump trade." By December 31, 2016, the US Treasury yield rose rapidly by 59 basis points, and the US Dollar Index increased by 4.4%.

In the equity markets, the S&P 500 and Nasdaq rose by 4.6% and 3.7% respectively. In the commodity markets, Brent oil surged by 23.4%, LME copper rose by 5.7%, and COMEX gold fell by 10.0%. In other asset classes, Bitcoin surged by 33.8%.

Overall, in the "Trump trade," the rise in US Treasury yields, the strength of the US dollar, and the increase in Bitcoin have a high level of certainty. The trade is biased towards US stocks and copper prices, bearish on gold prices, and the impact on oil prices is uncertain.

In terms of the impact direction of the Trump trade, the categories with certain discrepancies from a policy perspective are mainly copper, gold, and oil. While commodity prices are also affected by multiple other factors, based on the results of previous trades, the Trump trade may not necessarily be "bearish on copper and oil, bullish on gold."

1) Regarding copper, Trump did not completely restrict the new energy industry. During his tenure, the production of natural gas and renewable energy in the US reached new highs. The subsidy amount for clean energy increased from $7.1 billion in 2017 to $17.3 billion in 2020. Additionally, tax cuts, reindustrialization, and other economic stimuli will boost demand for copper 2) On the gold side, Trump's victory will indeed interrupt policy continuity to a certain extent and amplify market uncertainty. However, the high certainty of his policies pushing up US bond yields still leans towards a bearish outlook for gold. At the same time, Trump's attitude of shrinking the front line on geopolitical issues also contributes to reducing geopolitical risks.

Moreover, the expansion of the deficit does not necessarily lead to a surge in central bank gold purchases. Central bank gold purchases may be dominated by some countries based on security considerations, rather than being closely related to US bond credit.

3) On the oil side, Trump holds an energy expansion policy. However, on one hand, US shale oil production capacity is already near its peak, and there is still a long lag from the issuance of permits to supply increases. On the other hand, policies such as reindustrialization stimulating demand may weaken the bearish impact of Trump's energy policy on oil prices to a certain extent.

III. The "Trump Trade" in the Equity Market? Favorable for Market Growth, Focus on Finance, Energy, and Manufacturing

For US stocks, structurally speaking, the "Trump Trade" is relatively bullish for market growth. According to the odds changes on PredictIt, the "election trade" since June can be roughly divided into three stages: the first stage, from early June to mid-July, saw a significant increase in Trump's chances of winning;

the second stage, from mid-July to early August, witnessed a sharp decline in Trump's winning odds due to Harris's emergence; the third stage, since mid-September, saw a resurgence in the Trump trade due to reasons such as Harris's poor performance in interviews.

In terms of relative market performance, during the first and third stages, the market and growth sectors clearly had the upper hand; during the second stage, the market and growth sectors weakened significantly. Logically, Trump's tax cuts, technology policies, and other factors are all bullish for growth sectors, while the upward risk in US bond yields brought by his policies may put pressure on small-cap stocks relatively.

By industry, potential bullish and bearish trends can also be evaluated from the excess returns during the "Trump Trade" period. 1) Looking at the intraday returns on debate days, after Trump's advantage in the debate on the evening of June 27, industries that benefit from the Trump trade should perform well the next day, while after Trump's poor performance in the debate on the evening of September 10, industries that benefit from the Trump trade should see a reversal the next day 2) From the perspective of various stages of the Trump election, June 27th to July 16th, September 18th to the present, are all stages of Trump's increasing winning percentage, which should be beneficial for the "Trump trade" targets; while July 17th to August 11th, Harris's winning percentage has significantly increased, indicating that weak industries may be more in line with the characteristics of the "Trump trade".

Furthermore, the correlation between industry index market performance and Trump's winning percentage can be further examined. Since June 17th, industries such as air transport and logistics, building materials, energy equipment and services, semiconductors, and banks have shown a high positive correlation with Trump's winning percentage, at 0.61, 0.55, 0.49, 0.47, 0.47 respectively; while industries such as life sciences, food, personal care products, healthcare suppliers and services, and biotechnology have shown a high negative correlation with Trump's winning percentage, at -0.63, -0.62, -0.57, -0.56, -0.54 respectively.

Taking into account the excess returns on debate days, excess returns at various stages of the election, and the correlation with Trump's winning percentage over the past 90 trading days, industries with potential upside due to Trump's policies can be roughly divided into 4 categories: 1) Banks and consumer finance benefiting from relaxed financial regulations; 2) Energy equipment and services, metals and mining, and oil and gas benefiting from support for traditional energy development; 3) Electronic equipment benefiting from corporate tax cuts; 4) Air transport and logistics, building materials, automobiles, and auto parts.

Industries with potential downside can also be divided into 4 categories: 1) Consumer goods such as personal care products, beverages, household consumer goods, food, and durable consumer goods; 2) Clean energy such as electric utilities; 3) Healthcare such as life sciences, pharmaceuticals, and medical devices; 4) Defense industry.

The market consensus is positive on industries such as finance, traditional energy, and tax cuts, while negative on clean energy. It is worth paying more attention to the following categories:

1) Industries such as air transport and logistics, building materials, and automobiles under the logic support of Trump's re-industrialization policy. 2) Compared to Harris's tax cuts and subsidies for low- and middle-income groups, Trump's tax reduction policy benefits the wealthy more, leading to a bearish bias in essential consumption, healthcare, and other industries.

3) Trump's contractionary policy on geopolitics creates a bearish bias for the national defense and military industry.

IV. Possible Interpretation of "Election Trading"? Short-term Surprises, Medium-term Policy Impulses, Long-term Fundamentals

Recently, the probability of Trump's re-election has significantly increased, and the market has once again priced in the possibility of Trump's victory. As of October 24th, the RCP aggregate poll shows Trump's approval rating at 48.5% and Harris at 48.6%; in September, Trump's poll numbers were once 2 percentage points behind, but now have caught up with Harris.

Among the seven swing states, Trump's approval rating is leading across the board; as of October 26th, Trump's lead in Georgia, Arizona, Pennsylvania, Nevada, and Wisconsin has continued to widen from the previous week. Looking at the betting market, the probability of Trump's victory is as high as 61%. Since September 23rd, the Trump Group has surged by as much as 268%, indicating a clear resurgence in Trump trading.

However, the election outcome is far from certain; in the short term, if Trump is elected, the continuity of previous trades may be relatively limited, but if Harris wins, there could be a significant reversal in previous trades. Looking back at history, the betting market's predictions for election results have not always been accurate, with 5 out of 22 elections since 1936 failing to predict correctly; polling also has its flaws.

This year, uncertainties such as the continuation of mail-in voting, population shifts between urban and rural areas post-pandemic, and new biases in Trump's polling models could lead to result uncertainties, but market trading has clearly leaned towards Trump. This implies that if Trump is successfully re-elected, market trends may resemble those of 2020 and 2012, with minor continuations of previous trades; however, if Harris wins, the market may resemble that of 2016, experiencing a significant reversal

In the midterm, the focus of the market interpretation lies in the pace of policy advocacy by the election candidates and the feasibility of implementation. 1) In terms of the pace of advocacy, the U.S. president can promote policy proposals through executive orders, legislation, etc.; the implementation speed of legislative procedures is slower, while executive orders are easier to implement. Historically, in his first term, Trump swiftly implemented policies in areas such as immigration, trade, and regulation through executive orders, but policies in the tax field were slower to materialize.

1. In terms of feasibility of implementation, if lacking cooperation from Congress, Harris's tax policies, Trump's tax and energy policies may face obstacles; at the same time, both sides have poor records of fulfilling campaign promises, with Trump's first-term policy fulfillment rate at only 23%, but higher in the trade sector. The smooth progress of policy advocacy may directly impact the reversal or continuation of the third-stage election trades.

In the long term, what remains decisive for the pricing of most assets is still the fundamentals themselves, and the impact of elections on the market may mainly be realized through their influence on the fundamentals.

Looking at the market trends during the period from 2017 to 2019, during the restart of the "Trump trade" driven by the implementation of trade policies, U.S. bond yields were still falling, copper and oil were resonating downward, and gold prices surged significantly, seemingly conflicting with the essence of the "Trump trade"; the reason behind this was the economic downturn caused by trade frictions, which led to a significant weakening of the U.S. economy and dominated the market trends during this period.

Looking ahead, the "election trade" should still return to the fundamentals themselves. Currently, this year's election can be divided into four scenarios: Republican full victory (probability: 49%), Trump + divided Congress (probability: 14%), Democratic full victory (probability: 12%), Harris + divided Congress (probability: 21%).

In terms of the magnitude of positive economic impact, the ranking is as follows: Democratic full victory > Republican full victory > Harris + divided Congress > Trump + divided Congress

Author of this article: Zhao Wei (S1130521120002), Chen Dafei, Li Xinyue, Source: Shenwan Hongyuan Macro, Original Title: "In-depth | Decoding the 'Trump Trade'"