investors have decided that president-elect donald trump will be very good for stocks and very bad for bonds. they shouldn<u+2019>t be so confident in their convictions. the reality is, no one except maybe for mr. trump knows what policies he will pursue. and even mr. trump doesn<u+2019>t know how those policies will affect the economy. <u+201c>the fact that trump is a nontraditional politician means the range of outcomes is broad,<u+201d> says mike cloherty, rbc capital markets rate strategist. <u+201c>yet we see in prices a high probability of events playing out a certain way.<u+201d> the base case scenario for the stock market rally and the bond market selloff is that mr. trump will be able to quickly enact a tax cut and a fiscal stimulus. the market believes that policy will increase growth with a side effect of rising inflation . stocks win in this scenario because profits rise, and since revenues increase with higher prices, stocks also contain at least a partial inflation hedge. with growth rising at a time of near full employment, competition for workers will increase, driving up labor costs and inflation.<u+00a0>treasurys, which don<u+2019>t benefit from growth and are hurt by inflation, suffer. even in more mundane times, investors are pretty lousy at predicting the future. there is a lot they can get wrong in the first months of mr. trump<u+2019>s administration. first, will mr. trump and congress be able to pass anything quickly? second, will what they pass have the impact they predict? mr. trump<u+2019>s tax cuts for example will go mostly to top earners who are more likely to save the windfall than spend it. a tax break for companies to bring home cash trapped overseas could lead to bigger dividend payments and stock buybacks, which would also benefit wealthy. such a scenario would be less compelling for stocks and likely better for bonds. third, the stimulus would come after years of economic growth and near full employment. normally stimulus comes during periods of economic weakness with high unemployment<u+2014>periods when the federal reserve is cutting rates. coming now, any signs of rising demand might induce the fed to raise rates faster, offsetting the stimulus. fourth, investors seem to be discounting the possibility that mr. trump will follow through with the threats to pull out of trade agreements and impose trade tariffs. economists have long viewed such barriers to trade as a negative for economic growth. they could certainly be bad for stocks. u.s. companies rely on supply chains that stretch around the world that, if disrupted, could cause major problems. retaliatory measures from other countries could hurt exporters, as well as the substantial operations many u.s. multinationals have overseas. mr. trump<u+2019>s election is one of the biggest political shake-ups the u.s. has ever faced. investors shouldn<u+2019>t be so sure about where the dust will settle. write to justin lahart at justin.lahart@wsj.com
what could go wrong with the trump trade - wsj
justin lahart