Wednesday morning, many commentators expected the US stock market to fall through the floor after Donald Trump’s surprise victory. Their expected moment of schadenfreude, however, quickly evaporated as the stock market opened and proceeded to go…. up! So, what happened, and what will this mean for the stock market going forward?
Well, the stock market doesn’t like surprises. The difference in the price of a stock between where it is currently priced and where it should be priced in the future, given predicted future earnings and dividends, reflects the amount of uncertainty that people feel. If people were certain that Apple was going to pay a certain amount of money out in dividends over the next five years, the stock would go up in price until the return from the dividend was about the same as they could get from a five-year bank CD. Because they are not certain, however, the price is less than that, to account for the uncertainty in actually getting the return expected. When they are right, the reward they get is then great enough to make up for the times when they are wrong. This is called discounting and is done automatically by the auction style of the markets.
When there are surprises, such as when the candidate that was not expected to win, does, this creates uncertainty. The people who had bought stocks the night before assuming a Clinton win were suddenly faced with a Trump presidency. They had to step back and reevaluate where stocks should be priced given this new reality. When they don’t know what to do, the first reaction is to sell off. They don’t want to pay too much, so they only buy when they are able to pay a lot less than they think stocks are worth. This was seen in the fall of stock futures Tuesday night.
By the time the market actually opened, however, people had time to digest the new reality had thought about the effects. They realized that if Trump cuts regulations, as he has said he would do, this would help many businesses since their cost of doing business would decline and less money would be wasted filling out paperwork to meet regulations. This would also help consumers since the cost of goods and services would decline, so they would have more money to spend and help drive the economy. Removing the confines of Obamacare, such as requirements that businesses with more than a certain number of full-time employees provide health care, likewise would cause businesses to hire and reinstate many employees who had been moved to part-time to avoid needing to give every health insurance back to full-time status. This would also be good for the economy. All of these realizations caused the stock market to rally when it actually opened.
Not every stock did well. Hospital stocks tended to fall since, without Obamacare, they may see less revenue since people would not be forced to buy insurance and therefore be more reluctant to have medical procedures performed. Plus, they might see an uptick in the number of people who show up with no insurance that they still need to treat. Stocks like coal and oil producers did especially well since they were facing some of the most stringent regulations. Many coal companies were on the brink of going out-of-business. Banks also did well since they may see some relief from the Dodd-Frank regulations.
So what will be the effect in the future? All I can say is that the economy will grow, given an environment where it is not overly constrained. Policies that increase the cost of labor like requiring high minimum wages and having companies be forced to provide certain benefits are hard on workers since they make only the most skilled and efficient employable and drive companies to cut jobs and replace workers with technology, but the economy can still grow. I can also say that stocks will go up, almost regardless of the environment, since companies find a way to make money – they need to in order to survive. This is why you should always be invested according to your investment horizon (how long you have to invest) and personal risk tolerance, no matter who is in the White House and no matter what you think about the state of the economy. The biggest moves up in the stock market happen very suddenly. You don’t want to be standing on the sidelines when one does.
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Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.