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February 15, 2017 | GSAM Connect

Equities Under Trump: Why We Expect a Volatile Ride (Higher)

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By Heather Kennedy Miner, Global Head, Strategic Advisory Solutions

We think today’s low equity volatility environment is unlikely to last, given the elevated political uncertainty around US President Donald Trump’s policies, populism in Europe and related risks. We continue to expect moderately positive 2017 US equity returns, but the journey could be a turbulent one. Here are four reasons we think investors should be ready to stomach greater market volatility in 2017.

We believe the market is mispricing political risk. Rising equities would seem to suggest that anticipation of pro-growth Trump administration policies has overpowered markets’ typical distaste for uncertainty. Perhaps for the moment. Pricing the market impact of the populist currents ascendant in the US and Europe is a long game which could take months or years. The potential for protectionist US trade policies vis-a-vis major US trade partners is just one of the politically induced catalysts for volatility that markets face today – upcoming elections in France, Germany and Italy are three more.

EXHIBIT 1: S&P 500: A NEW CLUSTER OF VOLATILITY?

new-cluster-of-volatility

Chart Source: Bloomberg, and GSAM as of 12/30/2016. Drawdowns are defined as a period when the S&P 500 Index falls from a peak to a trough (since January 1990). The 10%+ drawdown periods capture drawdowns, on a year-by basis, that are at least 10% in magnitude. Past performance does not guarantee future results, which may vary. The economic and market forecasts presented herein are for informational purposes as of the date of this presentation. There can be no assurance that the forecasts will be achieved. Please see additional disclosures at the end of this presentation.


More rapid equity market corrections and recoveries. Even before President Trump’s surprise election victory, US equities were staging more rapid declines and recoveries than the period before the global financial crisis. Prior to 2008, the S&P 500 Index would take on average 37 days to correct by 5-10%1. Since the crisis, the same figure was 29 days (as of right before the US election). In a similar way, recoveries are happening more quickly, taking an average of 30 days (versus 48 before). We think markets today are more prone to these rapid corrections and recoveries than in the past. What’s more, equity market volatility in the past has arrived in multi-year clusters (Exhibit 1). We think investors today may be facing a new cluster of volatility, which in our view would elevate the importance of risk management and diversification.

US equity valuations are unforgiving. Elevated equity valuations can persist for some time, but we think today’s high S&P 500 Index valuations may reduce investors’ margin of error. Long-term investment returns (on a 10-year horizon) in high-valuation environments such as today's historically have been positive, albeit low, often in the mid-single digits,2 meaning it has not taken a large market move to erase an entire year’s return potential. We expect equity returns to reflect earnings growth over the medium term.

Conditions remain supportive for risk, though risk management is key. The global economic expansion is halfway through its eighth year, providing a supportive backdrop for equities. The Trump administration’s plans for deregulation and tax reform in our view could help unleash confidence and a greater willingness to invest, which in turn could result in increased differentiation across sectors and individual companies. We think approaches that go beyond “beta” or broad market exposure are worth the consideration of investors who seek to blunt the effects of market volatility.


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About the Author

Heather Miner

Heather Miner

Global Head, Strategic Advisory Solutions, Goldman Sachs Asset Management

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