Skull and Crossbones Alert: Don't Mix Politics and Trading - Wall Street Journal
There were just two problems with trading politics in 2016: the politics and the trading.
The year brought two of the biggest political upsets in decades with the surprise votes for Brexit and Donald Trump, but investors mostly missed both. Worse, those who did call the votes right might still have lost money because of the surprising market response.
Even an investor with advance knowledge of the electoral outcomes would have struggled, said Mark Haefele, global chief investment officer of UBS Wealth Management. “If you had said during 2016 the U.K.’s going to leave the European Union and Donald Trump’s going to be elected president and the stock market’s going to love it, I think few people would have expected that,” he said.
Not every political trade went wrong. Those who ignored the consensus that the U.K. would vote to stay in the EU were able to make big money from the collapse in the pound, and a Trump-related bet against the Mexican peso also paid off. But Sebastian Lyon, chief executive of London-based Troy Asset Management, points out that the big Brexit trades—gold up, sterling down, shares down a lot—were reversed when Mr. Trump won.
“Brexit and Trump were seen as two very similar outcomes,” said Mr. Lyon. “If you had tried to position for Trump to be like Brexit, you would have been carried out; the Trump [market] reaction was the exact mirror image.”
Many think the natural reaction to the political news would be a flight to safety.
“I would have expected a bigger and more prolonged risk-off move,” said Joachim Fels, global economic adviser at Pacific Investment Management, the bond fund manager. A risk-off trade typically involves buying bonds and selling stocks.
Not only did the stock, bond and currency reactions to political events buck expectations, but the political upheavals didn’t even help identify the major market turning points.
In February, the rout in emerging markets and commodities reversed as fears about China faded and low valuations tempted buyers, without any single event as an obvious cause. In July, U.S. Treasury yields began to climb from their lows, as investors became less concerned about recession or deflation. Rising yields ended the global rush into defensive stocks, low-volatility funds and bondlike shares with steady dividends, making bets on economic growth attractive again. Again, it’s hard to identify a single triggering event.
Andrew Milligan, head of global strategy at Standard Life, says what really mattered this year was the end of the U.S. corporate profit recession and the dovishness of central banks.
Again, though, knowing the moves in advance might not have helped investors much. None of the easing coincided with the major market turning points. The eventual outcome of a stronger dollar this year fits the idea of higher U.S. interest rates and easing elsewhere, but sticking to that bet as the dollar weakened in the first four months of the year would have been hard.
The one common factor between the February turning point for emerging markets and the July turn in bonds and bond proxies in the stock market was that bearish bets had become heavily overdone.
Unfortunately, timing sentiment-driven turnarounds is a matter of gut feel, as any trade can always become more overdone. Those looking for excessive confidence today will focus on the switch from pessimism to optimism after Mr. Trump’s election, the speed of the market reversal and the flood of money from bond funds to stocks. A pause is inevitable, and perhaps worse, if Mr. Trump disappoints on his tax and spending policies, or follows through on his promises to impose damaging tariffs.
If one lesson of 2016 is to be humble about political predictions, it is a lesson the market is ignoring.
Write to James Mackintosh at James.Mackintosh@wsj.com
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