By Nicholas Spiro
The tipping point in Donald Trump's crisis-ridden presidency is drawing closer with each passing day.
His decision on Friday to fire his chief of staff, Reince Priebus, just hours after the president's Republican party failed to muster the necessary votes to overhaul the US health care system, is the latest in a series of legislative blunders and self-destructive actions which have severely undermined the real estate tycoon's presidency and weakened America's standing in the world.
Already knee-deep in a debilitating scandal relating to collusion between his election campaign and Russia, and lacking the authority and political capital to secure Congressional approval for his pro-growth policies of tax cuts and infrastructure spending, Trump looks as if he has taken a wrecking ball to his administration.
The prevailing view among political analysts and commentators is that Trump's presidency is no longer sustainable and quite possibly doomed.
Yet judging by the reaction in financial markets, international investors appear unfazed.
On Friday the Vix Index, Wall Street's "fear gauge" which measures the anticipated volatility in US stock markets, stood at 10.2 points, a whisker above its historical low. The benchmark S&P 500 index, meanwhile, and the popular technology-heavy Nasdaq Composite index are both hovering near record highs.
The so-called "hunt for yield" continues unabated. According to JPMorgan, emerging market bond funds, which recently suffered a spate of outflows due to hawkish comments from leading central banks, attracted inflows of nearly US$2 billion in the week ending July 26. Since the beginning of this year, inflows into emerging market equity and bond funds have surged to US$118b and are on track to reach their highest level on record for the entire year.
One could therefore be forgiven for thinking that Trump's woes - and the escalation in political, and potentially constitutional, risk in America - are pretty much irrelevant as far as global investors are concerned.
Yet on closer inspection this is patently not the case.
For starters, the "Trump trade" - the simultaneous surge in US equities, bond yields and the dollar that immediately followed Trump's victory in the election - has fizzled out. The dollar index, a measure of the greenback's performance against a basket of other currencies, has plunged more than 10 per cent since hitting a 14-year high in early January to its lowest level since April 2016. While the dollar was still the most "crowded" trade as recently as April, according to Bank of America Merrill Lynch, it has since been supplanted by surging tech stocks, which can generate growth on their own and are not dependent on Trump's economic policies.
While there are a number of reasons for the dollar's fall - a more cautious Federal Reserve increasingly concerned about weak inflation being the most conspicuous one - Trump's severe political troubles are the overriding factor. The greenback is now a proxy for investor sentiment towards US politics.
Trump risk is also the flipside of euro enthusiasm.
As US equity funds continue to suffer outflows (more than US$20bn since mid-June), European stock funds are enjoying a surge in inflows, with US$30bn flooding in this year, according to EPFR Global. The euro, meanwhile, has shot up 10.3 per cent against the dollar since early April to its highest level since the end of 2014. The appeal of the euro zone, which is enjoying stronger growth than the US, has increased significantly since the reform-minded Emmanuel Macron won the French presidency in May.
The greater the escalation in US political risk, the more stable and attractive Europe appears in the minds of global investors.
Emerging market assets are also benefiting from Trump's woes.
Not only has the weakness of the dollar been a boon for the currencies of developing economies - fears about further depreciation in the yuan, which were rife at the end of last year, have ebbed significantly - political risks have shifted to advanced economies, especially after Britain's decision last year to vote to leave the European Union. Moreover, a weakened and scandal-plagued Trump increases the scope for policy paralysis, reducing the risk of protectionist measures against China. Already in March, JPMorgan noted that "US policy risks" are less of a concern in emerging markets.
Still, while the political turmoil in Washington is having a discernible effect on asset prices, the inescapable feeling is that investors have yet to come to terms with the possibility that Trump could eventually be impeached.
Trump-driven shifts in markets may have only just begun.
Nicholas Spiro is a partner at Lauressa Advisory
- South China Morning Post