North American Income Trust (NAIT) manager Fran Radano believes US president Donald Trump's plans to cut tax could have a 'huge' impact on US stocks.
Markets have largely cooled on president Trump, with the big rally following his election dying down as he struggled to implement his key campaign pledges, such as the repeal of Obamacare.
This has led to investors largely ignoring the potential impact of his plans to cut corporation tax. But those cuts, combined with efforts to make it easier for US companies to bring home money held overseas, could have a dramatic impact if implemented, said Radano.
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Daniel Grote: Hello, I’m joined today by Fran Radano, who is manager of the North American Income Trust. Fran, thanks for joining us.
Fran Radano: Thanks for having me.
DG: Well I guess I’ll kick off first by really asking why an investors should go to the US for income. We’ve got more income over here in the UK, and are lot of the exciting parts of the US market like Facebook and Amazon, they don’t really pay an income. So why should investors go to a trust like yours?
FR: I think when we look at the trust and what we’re trying to do, we look for durable franchises that can last through a cycle and have an established amount of cash flow that they can invest in the business, they can buy back a little bit of stock to offset the comp scheme and pay a nice progressive dividend, whether it’s 2, 3, 4%, a healthy amount that we feel good about, so it’s a little bit of both.
DG: And income strategies in the US, they have broadly underperformed the wider market over the last three or five years. Where do you see the catalyst for that changing? Particularly as, unlike over here, we’ve got the US Federal Reserve progressing with interest rate rises.
FR: Yeah I think what we’ve seen, and we have a slide which we show our investors, we’ve shown that growth markets are outperforming value markets, which would be your classic income markets, by a couple of standard deviations. So we tell them, we’re not expecting that to revert to the mean tomorrow, but we think over time, over a cycle, growth companies, once they get past their hyper growth and begin to mature a bit, and we see Google and we see Facebook, and these are no longer small companies in hyper growth mode, multiples sort of come down and investor expectations recalibrate.
We don’t know the timing of that and we’re not going to try to predict that. But what we know is we have good moderate growers that grow through a cycle, are cash generative, can return money to investors, and the best catalyst is the catalyst you’re not expecting. We don’t look to be catalyst driven investors but we look to have these franchises that we know that, through a cycle, investors will be rewarded.
DG: And given there’s been that dispersion in performance between the growth area of the market and the income area, to what extent are income stocks immune to the valuation concerns, really, that a lot of investors have about the US.
FR: I think if you look at the US market, multiples are 17.5, 18 times earnings which is at the high end of any historical range, about 10% above. If you look at some cashflow measures they are actually fairly middling. And then if you were to carve that out further you do see the tech stocks trading at 30, 40, 50 times, and some of the classic income stocks, 13, 14, 15 times. So the valuations are much more reasonable for those stable income generators. I guess what the question can be is where do those go. I think over a cycle we do see multiples move around as people rotate in and out of sectors. But we fell pretty comfortable about the underlying valuations. That’s not to say they won’t compress at times and expand at other times, and as active managers it’s our job to manage the portfolio. Not in a trading fashion, but sort of round the edges, where we top slice where we think multiples have expanded too high, or top up multiples that we think are oversold for potentially temporal reasons.
DG: What about the impact of president Donald Trump? I mean, we had the Trump rally, that’s kind of dissipated a bit, and there’s been a lot of difficulty in getting his policies through. I guess tax is the big issue, and there may be some movement on that pretty shortly. What impact can he have?
FR: I think if you look from inauguration to current, there’s been little. It’s been classic Washington DC gridlock. Which, you know, oddly the markets like, because when it’s all Republican or all Democrat and they push through their policies, the markets tend not to like them because they tend to overshoot. This has been gridlock and gridlock isn’t necessarily good over the long term. Over the near term it’s probably kept things fairly established.
DG: And on tax, I mean if he does make the kinds of cuts that he’s talking about to corporation tax the impact on American companies could be huge.
FR: It could be huge and it’s arguably not priced in the market yet. I think there’s two pillars to this. The first is lack of repatriation, so, like most developed countries if you earn money in one country you can move it to another country, money is fungible. In the US that’s not the case. This is an archaic tax law where if you’re taxed at a lower rate abroad, which is almost anywhere in the world because we have the highest rates, if you bring it back you need to pay the difference in taxes. So you’re taxed twice on that, which makes it uneconomic.
The other side is just taking that 35% [corporation tax] rate, removing some of the deductions and loopholes, and taking that down to, say, 25%. He has mentioned 20%, I think that’s his starting point, his starting point while he was campaigning was 15%, he’s now thrown out a 20% trial balloon, and my guess is 23% to 25% is maybe where, once you, you know you don’t unwind all the loopholes and deductions because that’s hard to do cold turkey for any politician, but if you can somewhere in that 23% to 25% range, make it competitive, reduce the loopholes, the deductions, and then you have some firm footing.
So that combined with a repatriation tax could structurally put the US on a much better path for the next 20, 30 years. For a long time, not a quick fix, not a loophole or a gimmick to get us through the next five years.
DG: Well Fran, thanks a lot for your time.
FR: Great, you’re welcome, thank you.