Paul and Brett's Alpha: Trump. What's Next?

Trump is back with a turbo-charged version of his “America First” agenda, which can be simply described as being a hands off, low regulation approach to the domestic market, allied to a pro-tariff approach to international trade (“tariff is my favourite word”) unless pro-America concessions are made or as a punishment if American policy objectives are not followed (e.g. to China: "I would say: If you go into Taiwan, I'm sorry to do this, I'm going to tax you, at 150% to 200%").

When you have control over the world’s largest economy, the threat of tariffs is the apotheosis of Roosevelt’s “carry a big stick” aphorism, so it may well be that Trump can achieve a lot of his aims without actually resorting to policy implementation on these trade matters. We saw this play out during his first term, particularly in respect of NAFTA, where he was able to extract concessions from Mexico.

When it comes to trade, the COVID-19 pandemic and subsequent invasion of Ukraine by Russia illustrated four things:

• Supply chains can evolve around even seemingly insurmountable bottlenecks over time (cf. Russian gas supplies to Europe).
• However, if change happens too quickly, huge disruptions with often unexpected secondary impacts can occur (cf. COVID-19, Houthi attacks on Gulf shipping)
• Changing supply chains is expensive and these expenses are usually passed on to the end customer (e.g. gas prices post Ukraine invasion and container shipping rates from Asia since October 2023) and their effect on broad inflation.
• Thus, whichever way you chose to look at it, any disruption to supply chains will stoke inflation.

Tariffs are thus highly problematic. If the US imposes a tariff on the importation of an input material, the US customer for that material has two choices: re-jig the supply chain to avoid the tariff nation(s) - (disruptive and inevitably costly) or pay the tariff (costly).

With this being the case, it almost does not matter which way things go; it seems likely that US interest rates will now fall slower under Trump than they would have done under a continuity Harris Presidency and the bond market has already moved in this direction.

It would be ironic if Trump’s policies re-accelerate inflation, since it would seem that dissatisfaction with the rising cost of living and lack of disposable income was one of the primary reasons that Harris lost the election; she has been punished as a Biden proxy for what is viewed domestically as an unsuccessful four year term from Biden.

No matter if America’s economic dynamism is the envy of the world, Americans are not living elsewhere and so a relative comparison is irrelevant to their lived experience. What they have seen and felt is rising prices and falling discretionary income.

How quickly this potential issue materialises is also hard to discern. Will Trump first seek concessions from key trading partners, as he did with NAFTA, or will he move quickly to impose tariffs rapidly by executive fiat? Leaving aside his majority in both houses, even the Democrats have become more hawkish toward China in recent years and these sorts of measures could well go unopposed if directed there.

Trump has talked about 10% import tariffs across the board and 60% for Chinese goods. The US imported goods totalling $3.8trn in 2023 and ~$470bn of this was from China, so this implies additional tax income of ~$600bn if enacted, equivalent to 2.2% of GDP.

Beyond the tariffs, Trump has pledged to further cut corporate tax rates. A reduction in the Federal Corporate income tax from 21% to 15% would save companies around $100bn per annum. He has also pledged to cut 10 regulations for each new one that is created. The former would not come close to offsetting the loss of earnings due to input cost tariffs, but the latter could allow businesses to move more nimbly.

Trump has also pledged to clamp down on immigration. America has benefitted from a ready supply of cheap labour for unskilled and semi-skilled workers (construction and food service, for example) and again, any constraint to this may have inflationary consequences.

Trump has not been shy in criticising the Federal Reserve and has suggested that it should not be fully independent when it comes to setting interest rates: “the president should have a say [on the direction of interest rates]” . If the Fed feels less able to move to combat inflation then the dollar will likely weaken, which would of course further exacerbate inflation.

The US Federal Trade Commission (FTC) has been more assertive under Biden’s appointee Lina Kahn, which has had something of a chilling effect on M&A. This has manifested itself in several ways; deals take longer to get approval and the FTC has challenged more deals than ever before (it was created in 1976), and been less willing to accept structural remedies to allow a deal through.

However, this must be considered against a backdrop of record numerical deal volumes. Generally speaking, companies are doing more, smaller transactions; i.e. those less likely to incur the ire of the FTC or even be on its radar. This trend surely also reflects the breakdown in the VC to IPO pathway; VCs are often forced to sell businesses to exit their funds in a timely fashion, creating an opportunity for valuation arbitrage on the side of the buyer.

We expect Trump to appoint a less zealous person to run the FTC and probably also have a less aggressive Department of Justice (DoJ) when it comes to enforcement of consumer protection laws etc. This may not apply to some of the Tech companies, for whom Trump seems to vacillate in his views.

The first Trump presidency did see strong FTC enforcement on this sector, but the tempering input of key donors and advisors from the Tech finance world such as Jeff Yass, Elon Musk and Mark Andreessen may temper this second-time around. The ROI on their donations may end up being very positive.

We are more sympathetic to RFK’s position on some food additives and the over-use of herbicides and pesticides, where greater regulatory scrutiny would probably be good for healthcare overall (many food and farming practices accepted in America would not be permitted in the EU or the UK for example).

• Dental: we see this market segment being at risk if consumer sentiment declines in the face of rising inflationary pressures on discretionary income, but not at any risk from a policy perspective. The Trust currently has no exposure to this sub-sector.
• Diagnostics: China is a significant market for some diagnostic products, but also has a strong domestic supply base. China is also a manufacturing hub for many sub components, so there could be margin pressures from supply chain disruptions or input cost increases due to tariffs. Demographic trends are far more of a driver for this industry than anything else.
• Distributors: Healthcare Distributors are largely domestic concerns and consequently changes to foreign trade policy should not have much of an impact. That said, they are low margin, capital and labour intensive businesses and they may struggle to defray input cost inflation resulting from the topics already discussed in the macro section. The Trust currently has no exposure to this sub-sector.
• Facilities: hospital operators fell in the immediate aftermath of the election outcome, as the threat of reduced subsidies might increase the proportion of under and un-insured patients who might then end up in hospital through the ER and have uncompensated care. Furthermore, any watering down of coverage quality in the ACA scheme could negatively impact demand. The Trust currently has limited and indirect exposure to this sub-sector.
• Generics: this industry is all about supply chain efficiency; being able to produce the required medicine at the lowest possible price in order to be able to bid as low as possible for supply tenders. The market is intricately linked to China as a core bulk active supply hub and very international in terms of supply chain. Gross margins are more like 40-50%, versus the 80-90% seen in branded pharma and biotechnology. Consequently, we see it as being at greater risk of supply chain disruption and tariff implementation than other areas of healthcare albeit the chance of drug supply being cut off in a retaliatory manner reduces this risk. The Trust currently has no exposure to this sub-sector.
• Focused Therapeutics (i.e. Biotechnology): the poor relative performance of this sector since mid-2021 has been a source of tremendous frustration to many investors. It reflects many cumulative elements, but the rapid rise in interest rates and thus implied discount rates for long-dated future cashflows is surely at the centre. An inflationary backdrop where rates fell more slowly and terminal rates were higher would be unhelpful to improving sentiment in this sector. However, the return of widespread public market M&A would probably more than offset this consideration.
• Healthcare IT: the Biosecure Act may well be the first salvo in a wider fight to control where valuable data is processed (rather like the Tik-Tok ban discussion) and we believe that healthcare data processing and services will become more and more domestically focused. Again, we see this outcome almost irrespective of who controls Congress, since it is a general privacy and security issue. As such, we do not see this sector as being impacted by a change in the administration.
• Healthcare Technology: the market for wearable medical technology is almost completely dominated by domestic US companies. Whilst they may see some supply chain challenges from tariff implementation, we think this is largely manageable and thus see this sector as being neutrally positioned regardless of the election outcome.
• Managed Care: A Trump win is unarguably good for broad-based health insurers since Republicans favour the private provision of Medicare benefits (part C and, to a lesser extent part D) versus Federally administered programmes (parts A & B). Medicare has been the fastest growing market for insurers for many years now but more recently has struggled due to lower than cost trend rate increases from CMS under the Biden administration, which we would expect to reverse.
  As an offset, Medicaid and ACA revenues could come under some pressure through changes to eligibility criteria and exchange policy subsidies, where Trump has explicitly talked about material cuts that could amount to hundreds of billions per year. However, this would be a policy shift directly impacting Trump voters, so it may not be on the table. We do not think that the ‘Trump 1.0’ plan to repeal the ACA will resurface given its complexity, and the lack of success last time around.
• Medical-Technology: China is a significant market for US medical technology products and any sort of tit-for-tat tariff war would likely crimp demand. China is also a manufacturing hub for many sub components, so there could be margin pressures from supply chain disruptions or input cost increases, but this risk has been diminishing over time as companies de-risk supply chains from geopolitical events (many scars from the China COVID shutdowns). Per the comments on Facilities, any pressure on procedure volumes from worsening coverage in the Medicaid and ACA-eligible populations would also represent a small headwind.
• Diversified Therapeutics: Mega-Cap Pharma needs pipeline and so we think management teams will be looking forward to new leadership at the FTC. Harris had promised to continue and potentially even expand the Inflation Reduction Act’s drug price cuts. These could now be tempered or even removed (the later feels unlikely to us as they are popular with consumers), which will benefit some companies if changes do come through. However, the overall effects at a sub-sector level on both counts are likely to be muted. The Trust currently has no exposure to this sub-sector. 
  Both RFK and the Means sisters seem to oppose direct-to-consumer advertising (“DTC”) for drugs. Quite how effective these ads are these days is up for debate. These ads are very good for promoting disease awareness and this sort of educational ‘infomercial’ would probably not be banned. What is known, is the industry spends around $2bn per year on such advertising in the US. Any savings would fall to the bottom line and potentially help to offset slower growth for new products, at least in the short-term.
• Services: Congress progressed the Biosecure Act during the previous session. This Act seeks to limit the use of China-based suppliers for certain manufacturing and genetic analysis services and we expect it to pass regardless of who is in charge of Congress or the White House. Manufacturing aside, most services businesses are domestically focused and so should not be overly impacted by these changes. Many contracts allow providers to pass input cost inflation onto customers as well.
• Tools: US-based companies dominate the supply of high-end analytical equipment used in biomedical research and thus the supply of consumables used within them. Given that China is the second-largest (and possibly largest, depending on how you measure it) funder of biomedical research, US Tools companies have material sales into the Chinese market. The malaise in this sector over the past 18 months is in no small part due to an unexpected and rapid slowdown of orders from China. Any sort of tit-for-tat tariff war would likely exacerbate this issue. Dilution of grants issued under Biden’s Inflation Reduction Act could crimp domestic demand too. We think multiples will remain compressed pending clarity.