Pork chopped

After seven years with the multi-asset team, our investment specialist Craig Brown is moving to a new role within our business working in a more strategy-focused role. A suitable celebration dinner proved less than straightforward. You know the drill: dietary requirements. It’s a particularly complicated matrix for our team: two celiac, one halal, one lactose intolerant and I don’t eat pork. We don’t specifically screen new hires for special dietary restrictions, but apparently behavioural biases can creep in anywhere! 

My aversion to pork seems to be shared by Elon Musk. He’s recently taken to his social media network to attack the “one big beautiful bill” going through Congress as an “outrageous, pork-filled… abomination”. America’s biggest bromance was always going to end in tears. Although in this case it ended in tweets – well, Xs and Truths. The only real question was just when two of the most powerful men in the US would fall out. 

Less than a month ago, President Trump handed Musk a golden key to the White House to thank him for his service. The world’s richest man has now stepped down from swinging the DOGE axe to refocus on his business empire – Tesla, X, SpaceX, xAI, the list goes on (where does he find the time?). But what initially looked like an amicable separation disintegrated over Trump’s big beautiful bill. 

As we discuss in the latest episode of the Sharpe End, that bill certainly lives up to its name. Its more than 1,000 pages cover a wide range of items as Trump looks to drive his political agenda further. Musk is slamming it because he’d been working hard to reduce the US federal deficit through DOGE (although claims that DOGE saved $175 billion have been questioned by many (what figures aren't these days?!) and fall far short of the original target of $2 trillion). There’s no doubt there’s fat for the US government to cut, but as anyone who has ever tried to cut a budget knows, doing so is more akin to taking a bone from a dog than candy from a baby. 

The bill threatens to undo Musk’s deficit-trimming work. The Congressional Budget Office (CBO) estimates it may temporarily slim the deficit this year, but will swell it by $2.4trn over the next decade, compared with doing nothing. 

Gluttonous pigs

The bill is wide ranging in true US style. It packs hundreds of items together to try to give a little bit of something to everyone to get the bill through Congress. Hence Musk’s comments: ‘pork’ is a term used in American politics to describe spending on projects in lawmakers’ constituencies, particularly on things intended to win favour with particular groups or areas. The administration claims the bill will save the US $1.6trn over 10 years. But that’s predicated on the bill having a material economic boost that increases the tax take – an assumption once labelled ‘Voodoo Economics’ back in the 1980s. The CBO is yet to complete its analysis of these macroeconomic factors. 

Most independent bodies don’t subscribe to this fuzzy math (and Musk is clearly among the naysayers). Instead, the bill is broadly expected to widen the US deficit, adding to the already huge ($36trn) US pile of debt.

One of the key areas the bill covers is personal tax cuts: extending existing tax breaks from Trump’s first term which are set to expire; removing tax on tips and overtime; and increasing the SALT cap (State and Local Tax deductions), as well as corporate tax breaks, including on Research and Development and for those manufacturing in the US. Balancing these are deep cuts to food assistance programs and Medicaid (health insurance for low-income households) as well as student loan aid. There are also changes to some of the Biden-era support for clean tech – such as renewables and EV subsidies. The latter move is no doubt unpopular with Mr X, although there are also tax breaks for those buying US cars. 

Tax cuts should give a welcome break to lower-income households who have been struggling under the weight of inflation and higher rates that make loans and credit card debt that much more painful. Wealthier households also benefit (with no sign of higher marginal tax rates). All this should provide a welcome boost to an economy which has slowed in the face of significant policy uncertainty. It should also be generally supportive of equity markets, as you’d expect people to have more cash left over to spend and invest. If we start to see Trump press ahead more forcefully with promised deregulation, that could boost these effects further. 

However, the enormity of the US budget deficit is coming under increasing scrutiny. The country has run a budget deficit every year since 2002. And that turn of the millennium surplus was an aberration: it spent more than it received every year between 1969 and 1997 as well. Deficits have widened sizably in recent years. That’s supported US GDP growth, particularly since COVID. But bond investors have lately become less accommodating about this fiscal largesse, and bond yields across many countries have risen as government finances have deteriorated. 

A finely balanced dish

We sold a lot of our US government bonds in the run-up to last year’s US election as we thought neither candidate offered much of a credible economic plan. Neither even mentioned the fiscal deficit. We’ve subsequently used the volatility in bond markets to add some back – although the government bonds we own are well diversified across countries, including the UK, Portugal, New Zealand and Australia. We also own euro-denominated supranational debt which tends to trade like German government bonds but with a more attractive yield. As inflation continues to soften, these bonds provide attractive real (i.e. inflation-adjusted) yields, as well as providing protection to the portfolios should global growth soften.

So far, the bond market hasn’t reacted too negatively to the bill, in part perhaps because there are still likely changes to come before it passes through Congress. Still, longer-dated bond yields have moved higher in the US. Some senators are likely unnerved by the large cuts to social spending for their constituents (even the White House has questioned some of the Medicaid cuts). Others are purportedly unhappy with the tax cuts that worsen the US fiscal situation. 

My sense is that the bill will be watered down to ease concerns on both sides. Nonetheless, if it passes in a form that bond markets don’t like, this could have a material impact on bond yields and a knock-on impact on equities which have tended to sell off as bond yields in the US approach the 5% level. (The bill’s Section 899 is a particular concern too – it allows the Treasury to tax companies up to 20% on US assets if they’re deemed to be from unfriendly tax regimes. More here.)

We’ve therefore taken out some protection against this scenario through various insurance strategies which will help protect our portfolios if both equity and bond markets fall together.

The bill will not be pork-free. But we hope it doesn’t prove too salty when it’s finally served up to bond markets. 

Tune in to The Sharpe End - a multi-asset investing podcast from Rathbones. You can listen here or whenever you get your podcasts. New episodes monthly.