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Dear Clients,
I am sure all of you would’ve completed your doctoral thesis on Donald Trump. It would be great to interact with all of you on your conclusions of this phenomenon called Donald Trump. I have had numerous conversations (on top of reading innumerable articles) about this phenomenon. I admit that I am not able to fully comprehend what it is. But what I am going to try here is to separate the facts from the opinions and put those facts to test on first principles. First principles that are based on simple economics and not on morality, nationalism or unfair advantages. Luckily there won’t be too much to analyze here as most things that are coming out from Donald Trump are like what Salman Khan says. “Dil mein aata hoon. Samajh mein nahin.”
Trump fights elections on the premise of MAGA (Making America Great Again). Every leader, whether elected democratically or otherwise, should be doing the same. It’s a no brainer. But Trump has successfully convinced majority voters that the current system is working against them and not doing enough for MAGA. The current system is involved in unnecessary wars (which don’t benefit the US), trade policies that are not favouring the US, and the US is incurring huge expenditure to keep the global geopolitical landscape calm. Is it true? Yes and No. Yes, over a period US spending has gone through the roof and the US has been importing far more goods and services than it should. No, because this has not happened due to “one” individual politician or political party. It is a natural evolution one would expect in a democracy. Being a reserve currency has its privileges, but they don’t come free.
Sticking to the facts, it is safe to assume that Trump will try to fulfill his promises by ending the Ukraine and Isreal war, manufacture and export more from the US to the world and ask other economies to share the costs of keeping global geopolitical landscape calm. From an investor’s point to view all the above points are important, but as we know, the immediate concern is global trade and how tariffs levied by Trump will shape the future. I firmly believe that beyond a certain point, nobody knows anything. The situation currently is too fluid. There are second and third order consequences which cannot be grasped. Things need to settle down before we can extrapolate. Here is what I think the facts are:
Facts:
- US Tariffs have increased meaningfully, and everybody will have to adjust
- Global trade will become tougher
- Impact will be more on countries that are export focused
- Relatively speaking, India will be in a better position as India’s trade deficit with the US is low
- Global growth and global markets will slow down
- Certain goods will be priced higher in the US and the US will face an inflationary environment
- Supply chains are not easy to move and absorbing these shocks will take some time
Opinions:
- End of the Global Free Trade
- End of the US Dollar
- 2008 Financial Crises once again in a new Avatar
- Donald Trump is a Genius
- Donald Trump is buffoon
- Donald Trump is a master negotiator, etc.
We should be more focused on the facts that are outlined above rather than the opinions that are floating around everywhere. Let’s test these facts with basic economics.
Que: What happens when growth and trade slows down?
Ans: The growth in profits and cash flow of companies slow down.
Que: What happens to the valuations of the companies when growth in profit and cash flow slow down?
Ans: The valuations come down.
Que: By how much?
Ans: It depends. Those companies which were trading at very high multiples implying high growth in profits and cash flow will correct much more compared to companies that were trading at multiples implying reasonable growth in profits and cash flow.
Que: A company that produces and sells everything in India. Will it be affected?
Ans: Logically it should not. But what happens during chaos is 2 things. One, liquidity dries up and two, expensive valuations correct even though the businesses don’t have any direct impact on their profits and cash flows (you may have heard about “triggers”).
Que: Where are we right now from Indian markets perspective?
Ans: Large cap companies that can bear the chaos and who are serving the domestic markets will have downside protection. They are investible with risk-return very much in their favour. Small and Midcap companies have become reasonable and hence on a case-to-case basis they can be investible (that category as a whole is still on the expensive side).
Que: What happens to Indian companies that are exporting to the US?
Ans: It would be prudent to wait before investing in them. The situation is very fluid, and specific things can change depending on the negotiations between the US and India. It is not going to be an end of US-India trade for sure. Also, in many areas like IT, Pharmaceuticals, Textiles, etc. we have a competitive advantage over the US and that will remain.
In conclusion, a good strategy is to try and understand how things are going to change at the global level. It is also important “not” to think in extremes. World trade is not over. Take a simple analogy. We know the use of smart phones beyond a certain point is not good for our daily routine. Does that mean we should go back to landlines? No. The benefits of smart phones outsmart the limitations. Same thing with global trade. Countries will keep trading with each other. There is a visible shift in global trade and geopolitics. We need to keep an eye on that. I intend to write a series of articles on the changing global landscape. But today, I wanted to note down the things that have happened thus far, and how we can think about their impact on investments in simple terms. For more complicated things, I am going to go back and study the phenomenon called Donald Trump.
