Investing Under Autocracy and Autarky

When It’s Risky, Seek Safety

This is economics’ commonsense investment advice. It’s a message I delivered four days after President Trump took office — in a column entitled “30-Year TIPS Are Looking Mighty Attractive.” Four days was enough to sense that Trump would likely turn our economic and geopolitical worlds upside down. “Likely” is the operative word. With Trump, no one, including, it seems, Trump Almighty, knows what he’ll do next.

Financial markets abhor uncertainty. When I wrote in January, the VIX, the market’s measure of uncertainty, as inferred from option pricing, hadn’t yet budged. It’s now risen a whopping 85 percent. As predicted, stock markets have tanked. Trump’s post-election stock market gains are gone, with the S&P down 8 percent in the past month.

Where is the market heading? No one knows — for a simple reason. The market already incorporates existing information. Only new news, which is inherently unpredictable, determines the market’s value a nanosecond from now. This means things could turn around, but also get far worse. In the Great Recession, the market dropped 53 percent. In the Dot Com Bubble, it dropped 50 percent.

Your stock mutual fund manager will claim stocks always rebound and are safe in the long run. As discussed here, 90 percent of these “experts” underperform the S&P 500 over a ten-year horizon and charge for their “services.” Yes, over any 30-year holding period since 1925, when the data series starts, investing in the stock market has been a great move. But there are only 3 independent 30-year observations of cumulative returns here. For example, the years 1925 through 1955 and the years 1926 through 1956 contain 28 identical annual returns in forming their cumulative returns. A fourth independent 30-year data point is the Japanese stock market. It peaked in December 1989. Thirty years later it was 40 percent lower. Yes, it’s now roughly back to where it was then. But that’s in nominal Yen. In real Yen, it’s 20 percent lower!

The Trump Recession?

The Great Recession panicked the economy. It’s overhyped title gives that away. GDP fell by only 3 percent — the same as in the 1981-82 recession. But no one called that recession great, let alone within a few months of its start date. This articleThe Big Con, argues that the Great Recession was caused by sheer panic. Certainly none of its alleged causes has much, if any factual support.

The proven ability of the economy to scare itself to death is important. Trump is tweeting FIRE in a crowded economic theater and the stampede could start at any time.

The Federal Reserve Bank of Atlanta is now forecasting a 2.4 percent decline in GDP in this quarter alone! Two months back it was forecasting a 4 percent rise! It only takes two quarters of falling GDP for the National Bureau of Economic Research to declare a recession. If this transpires, history will record that Donald Trump took office to Make America Great Again again only to immediately produce a recession. At least he’ll have his name on it.

The prospect of recession is supported by the Index of Consumer Sentiment, which is now 27 percent lower than it was this time last year. Indeed, it’s at its lowest value since 2022. Another factor is inflation. The market is predicting 2025 inflation at 5 percent. That’s far north of the Fed’s 2 percent target. Hence, interest-rate hikes, not cuts are on the horizon.

Uncertainty about inflation long-term is, at this point, baked into mortgage rates. Mortgage lenders have no appetite to, yet again, get paid back in watered-down dollars. The 30-year mortgage rate is at 6.7 percent and likely heading north. Construction, no surprise, is getting slammed. New housing starts are down 10 percent compared to last month — close to a four and a half year low. Then there’s the growing boycott of U.S. exports, including tourism to the U.S., which, btw, counts as an export. I warned of this two weeks back.

And let’s not forget about two major recession-augmenting policies. The first is the proposed deportation of roughly 5 percent of the U.S. workforce. That could lower GDP, all on its lonesome, by 3 percent. The second is the treatment of the federal government’s almost 2 million employees. A 20 percent culling — what Musk likely seeks — also spells major macroeconomic trouble.

Trump is also engaged in a wholesale attack on the academy — cutting overhead recovery rates on grants and threatening major reductions in funding for the National Institutes of Health and the National Science Foundation. Universities across the country are already telling scientists on soft salaries, i.e., grant money, that their paychecks will shortly end.

The Trump Inflation?

Then, there’s “Tariff is the most beautiful word in the dictionary.” It’s actually the stupidest word. In any case, thanks to Trump’s misconception of the source of trade deficits, we now are at economic trade war. Trump has imposed 20 percent across-the-board tariffs on China, 25 percent tariffs on aluminum and steel, and is temporarily pausing 25 percent across-the-board tariffs on Mexico and Canada. China, Canada, and the European Union have responded in kind. Mexico is holding fire till April. Where will the trade war end up — with 200 percent tariffs on European wine and all other imports? It’s anyone’s guess, but what’s already in place spells higher prices.

Trump’s Rule of Law?

Trump just defied a federal district judge’s order not to deport a plane full of alleged Venezuelan criminals and terrorists to El Salvador. If this Administration can defy court orders with impunity, which seems the case, private property is up for grabs — government grabs. This doesn’t augur well for investing in the U.S. — by Americans, let alone foreigners.

Trump’s underlying behavior seems that of a Mafia Don selling protection, whether it be to Ukraine or our former allies. My former student, Stephen Miran, Chair of the President’s Council of Economic Advisers, suggests the Administration may force those countries who seek U.S. military protection to purchase Treasuries (to lend to us) at an above-market price (a below-market interest rate). Note to Stephen: Do your best to prevent this as it will do enormous damage to the Treasury market and the dollar.

Seeking Safety

How should we invest in this setting? Personally, my wife and I pulled out of the market right after the inauguration and moved into TIPS. But we did so in our retirement accounts, which meant not realizing any capital gains.

The 30-year TIP is currently yielding 2.37 percent real. That’s a super high real return, historically speaking. But TIPS bear their own risks. The worst and, I believe, extremely implausible scenario is full or partial default. The other is high inflation, which raises the taxation of TIPS since their inflation adjustment is taxable. This phantom tax can be deferred by holding TIPS inside retirement accounts.

Some also worry that the Trump Administration will understate increases in inflation by mis-measuring the Consumer Price Index. Since the CPI is used to inflation-adjust the benefits of over 70 million Social Security recipients — roughly 40 percent of voters, I find this highly unlikely.

Where else can you find investment shelter from the storm? You might simply hold cash, i.e., put your money in a money market fund. Holding foreign stocks and/or bonds is another idea. So is holding gold. Other precious metals should also be considered. In holding metals, I’d go for investments that physically hold the metals, e.g., gold bars. Bitcoin? I’d stay far away.

Your most important investment in these scary financial times is your own human capital. This means making sure there isn’t a much higher paying job available or a far more lucrative career to pursue or that you aren’t retiring too early. While you’re at it, make sure you’re saving more than adequately, maximizing your lifetime Social Security benefits, doing Roth conversions, which, like Social Security optimization, may have a huge payoff, not spending more on housing than you can afford, considering moving to states with lower taxes and costs of living, and the list goes on.

My company’s MaxiFi Planner Premium tool, which does economics-based financial planning and was just ranked by Bankrate as one of the top three financial planning tools, can help you jointly make all these decisions. The tool’s Upside Investing lets you set a living-standard floor and experience only upside living-standard risk. This is arguably the best way to stay safe in these uncertain economic times — invest in the market only what you are prepared to lose without endangering your basic living standard.

Final Thoughts

Economists are called Dismal Scientists for a reason. We are trained to pay far more attention to the downside than the upside. This reflects the law of diminishing marginal utility. For each of us, the loss in happiness from a given spending reduction is larger in absolute terms than the gain in happiness from the same-sized spending increase. Diminishing marginal utility or risk aversion is a fancy phrase for satiation. On a hot summer day, dropping your first ice cream cone feels a lot worse than dropping your tenth cone, especially if dropping one means no more are coming. Hence, we’re much more cautious in holding the first cone than the tenth.

My training and my own risk aversion may be leading me to convey too much caution. What if President Trump resolves the war in Ukraine? What if he brings Iran in from the cold and transforms the Middle East? What if President Trump and President Xi make nice? What if Trump delivers fundamental Social Security, healthcare, and tax reform? What if he embraces NATO, having gotten the Europeans to take their defense seriously? What if he brings illegal immigration to an end, but improves our legal immigration system? What if he adheres to the will of the judiciary? What if he makes American great again? Let’s hope, but, in the meantime, let’s personally play it safe.

Related: Is Musk-Trump’s Evisceration of Financial Oversight Sheer Lunacy?