Conventional wisdom has long held that investors should dismiss most of what they hear from presidential candidates on the campaign trail. But as the 2020 election cycle heats up, there’s good reason to cast that precedent to the wind.
Following the dismal vote-counting blunder of the Iowa caucuses, Bernie Sanders and Pete Buttigieg showed in New Hampshire on Tuesday night that they have staying-power in this year’s race. The duo is not just transforming the Democratic party’s platform, but they’re introducing a host of anti-market policies into America’s mainstream political debate. The most prominent example is the confiscatory wealth tax which is championed by both candidates.
While it’s easy to dismiss a wealth tax as whimsical, it would be a mistake to do so. A January poll conducted by Reuters/Ipsos reveals that a majority of Americans actually support the concept. Data shows that 77 percent of Democrats and 53 percent of Republicans believe the government should impose an added tax on the “ultra-rich” based on the value of an individual’s total assets, ranging from stocks to bonds to real estate.
What may initially appear to be a surprising level of support should make a lot more sense when you consider that a growing number of Americans do want government to be more involved in their lives. A recent survey run by Gallup shows that the desire for more taxes and more governmental services has spiked roughly 55 percent over the past decade.
The takeaway for investors should be clear: a perfect storm may be settling over your portfolio. This year’s election is coming at a time when a growing number of pro-entitlement presidential candidates are campaigning across a nation that is more receptive than ever to nationalized healthcare and government programs that include trillion-dollar price tags. If we end up with President Sanders, for example, new taxes will be inevitable.
It’s important to realize that a wealth tax, in particular, will impact all investors—not just the country’s richest individuals.
The starting point for the Sanders proposal is a 1 percent tax on married households with $32 million or more in assets. Despite sounding like a fractional toll to some, the fact is the vast majority of household wealth is not held in cash. Nearly 73 percent is typically tied up in real estate and public or private equity. This means that when it comes time to pay an annual wealth tax, the stock, bond, and real estate markets will be dragged down in unison by forced sellers.
Another major issue is that a wealth tax will compound the capital gains tax currently in place. Investors already account for the latter when realizing returns on their taxable investments. Creating a duplicate tax structure will only discourage capital allocation to domestic risk assets. Once again, this will facilitate drawdowns across markets as large investors flee elsewhere.
These freighting consequences notwithstanding, the United States will not be an outlier if it rolls the dice on a wealth tax one day. There is actually a long line of developed countries, extending from France to Germany to Sweden, that have rolled snake eyes before us. Unfortunately, each of these nations saw a steady exodus of capital during the period in which their wealth taxes existed.
With all this context in mind, every investor—regardless of his or her political leanings—must accept that dramatic, market-moving public policy shifts could be on the horizon. Although a wealth tax is not a certainty at the moment, it’s now firmly part of our national dialogue along with a number of other anti-market polices once thought taboo. This dialogue will become the basis for the next president’s actual agenda if there’s a change in power this November.
There are thankfully ways to manage the risks associated with this unprecedented level of election-year uncertainty. But that doesn’t mean trying to “time markets” or shift asset class allocations haphazardly. Perhaps the most prudent path is just hedging existing equity market exposure with an options-based strategy, one that can help mitigate downside risk without sacrificing potential upside. This may make it easier to navigate a presidential election that will be uniquely defined by two starkly different policy visions.
Randy Swan is the founder and lead portfolio manager at Swan Global Investments.