Secular Trends Over Policy Uncertainty

Secular Trends Over Policy Uncertainty


Q2 2017 CIO Insights – U.S. Growth Equity – Large Cap

The theme of this edition of CIO Insights is the evolving investment landscape under the new administration. Here we look at some of President Trump’s key proposals and consider their effect on various sectors and industries. Ultimately, we argue that rather than focus on political uncertainties, it is preferable to stick to enduring, secular investment themes and opportunities that create value independent of policy changes.

Lacking Clarity

In last quarter’s note to clients, we focused on the perceived macroeconomic effects of the new administration’s policies in several areas. Unfortunately, three months later we find that we have only gained incremental clarity on the way forward. Many of the administration’s proposals and their effects I would still classify as “to be determined.”

Border-Adjustment Tax

A border adjustment tax (BAT) would shift the tax burden to companies that import content and lower the tax burden on companies that export products. The proceeds from the tax would be used to offset lost revenue from a reduction in the current corporate tax rate of 35%. The tax structure is consistent with the “America First” narrative because it would benefit exporters and discourage importing.

Interestingly, we see a bifurcation in the market’s view of the proposed BAT and likelihood of its implementation. Specifically, retail and apparel stocks have underperformed, while consumer electronics companies, which would likely also suffer under the BAT, so far have not. In industrials, we have seen companies defer capital expenditures in Mexico until clarity on the law is attained. In energy, too, changing price differentials for crude oil futures contracts indicate that the market is pricing in some possibility of a BAT. Ultimately, the format of the tax remains in flux and there appears to be willingness among some in Congress to not tie corporate tax cuts to a BAT.

Health Care in Focus

The fate of the Affordable Care Act (aka “Obamacare”) appears to be moving from repeal and replace to repeal and replace coincidentally. Because there is a great deal of tension around the fate of the act, we probably have more uncertainty today with regard to the impact on the health care sector than we had several months ago. It does appear, however, that risks associated with drug pricing appear to be rising in areas associated with the government as a payor.

Deregulation and Rising Interest Rates

In contrast, deregulation, especially in the financial services area, appears to be meeting with less resistance and is highly likely. A lower regulatory burden combined with a steeper yield curve create a more favorable environment for banks than we saw a year ago. A steeper yield curve is being driven by a tightening labor market as well as the perception that budget deficits are likely to rise, not fall. The steeper the yield curve, the more it benefits banks’ spread lending business.

Focus on Secular Trends

Generally speaking, we are big believers in pursuing lasting, secular trends as investment themes in uncertain times. We believe these larger trends are more likely to persist or provide opportunities for successful investments even as policy uncertainty reigns.

The opinions expressed are those of Greg Woodhams, CFA, and are no guarantee of the future performance of any American Century Investments portfolio.

For educational use only. This information is not intended to serve as investment advice. Past performance is no guarantee of future results.