Donald Trump’s healthcare failure has been taken pretty badly by investors. Stocks were in the red across Europe on Monday as markets reacted to the ditching of legislation that was designed to repeal and replace Obamacare.

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The DAX slumped below 12,000 before recovering its poise. The FTSE 100 posted a similar loss as sterling rallied against a weaker dollar. US stocks added to their worst week in months as the market has turned decidedly risk-off. Havens like the yen and gold are in favour.

A bad dayat the office for stocks, while the dollar is now targeting pre-election lows having slid from 14-year peaks. The Trump trade appears on the rocks.

What the healthcare failure signals

 

Driving this flight to safety is the failure of the GOP health reform bill. While the bill itself was to have a pretty minor effect on equity prices, Trump’s failure has spooked markets. There are now doubts about whether he can get the much more market-sensitive tax and spend legislation through (whatever that is – we still don’t know what it will look like). All this casts a pall over the president’s ability to get any meaningful reform on the move. Same old Washington gridlock, you might say.

Fiscal expansion might be easier to get through, or it might be harder. We just don’t know yet what the GOP is likely to do. We do know that there are a number of fiscal hawks among the Republicans who are ideologically opposed to the sort of fiscal expansion Trump wants. That is a significant roadblock and may make progress very hard. Exploding the deficit is not going to sit well with many.

A significantly watered-down set of tax reforms looks more likely for a number of reasons. The current plans are very complex. Savings from scrapping Obamacare vanished with last week’s failure. Trump still has to get Congress to agree to extend funding for the government –talk of cash for a wall might see Congress turn off the taps.  If Trump can pass reconciliation instructions in his budget resolution in May or June, it would mean he can pass tax reform with a bare majority – something that looks increasingly essential to getting any major tax changes done. Again this looks tough.

Trump is mired in the usual Washington gridlock. But does that matter and should it necessarily entail a reversal for equities to their pre-election equilibrium? Some people argue failure on tax will reverse the equity rally – the selloff we see now certainly plays into that narrative. But we’ve had years of deadlock in the US political system and that hasn’t exactly been bad for stocks either. US stocks remain up a tenth since early November.

But it’s not just Trump

 

It’s not all about Trump. The wild gains for the stock market may be traced back to Trump’s election victory in November, but the reflationary trade underpinning it has been going longer.

The yield on US 10-year Treasury bonds bottomed out in July before marching higher. US equities have been a bull run for years. After years of put, central banks do appear to have slayed the deflation dragon.

Expectations for higher growth are not dimmed by the GOP healthcare failure. The same pressures remain, although we now have doubts about whether the ignition spark that is promised tax reform will materialise. Stocks might be a bit overcooked but they’re still enjoying fundamental support with rising earnings and continued central bank support. Financials are turning around as rates are heading north.

If all the gains for stocks were down to Trump we might have seen a sharper selloff from the failure of the health bill – so we must look beyond Trump to understand what’s happening. Trump’s promises were only ever one part of the story as investors take cash out of bonds and into equities. The S&P 500 remains up about 10% since Trump’s election victory – markets are not that bothered, yet.

Judging by market volatility, talk of panic in the markets may be a touch overdone. Volatility has returned but not by a lot. The VIX has spiked but it remains very low by historic levels. Trading below 15 it’s still pretty sedate but watch for further rises in the index which may signal a steeper selloff in equities.

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