“If you don’t deliver the goods, people will eventually catch on.” – Trump in the Art of the Deal

Everything changed last week.

Let me explain why this is not hyperbole. Since the election, markets have been under a severely delusional state. The narrative has been beautifully simple and elegant; President Trump is going to juice the economy through deregulation, tax cuts, and healthcare reform. Inflation is finally here to stay because the next four years will be characterized by infrastructure spending and fiscal stimulus. Who cares about the disinflationary megatrends of technology, debt and demographics when we have Trump. Volatility will continue to be muted independent of very serious geopolitical risks. Cyclicals will continue to unrelentingly rally, and yields have nowhere to go but up.

Know what the problem with this is? The assumption that all of the pro-business policies Trump has promised on the campaign trail were true, and would pass. It turns out that the market completely forgot about execution risk and this little known thing in democracy called checks and balances. The major policy changes that the market has been pricing in with 100% certainty need some form of consensus to pass, not a tweet.

The Obamacare repeal and replace debacle has proven two things which perhaps the market is starting to catch on to. The first is the disappointment in the bill itself, not only in terms of coverage, but also savings. The second relates to the reality that 1) things always take longer than one thinks, and 2) to get things done, you need to be able to work together. Believe me, Trump is not the only one with an ego. Politicians he has slighted may publicly appear to support him, but have not forgotten being publicly insulted. In politics optics matter. Cooperation with your attacker looks weak.

An unraveling in the narrative is beginning to unfold. With bullishness as high as it is, few are considering the following facts:

1. year-to-date cyclicals have significantly underperformed,
2.  small-caps have given up nearly all of their post-election outperformance
3.  America-first is clearly becoming emerging markets first
4. long bond yields have stopped rising

Many of the outperformance trends that were based on Trump themes in the weeks following the election have been completely undone. Passive market cap averages haven’t gotten the memo. What has not been undone? The massive outperformance of US stocks to Treasuries since November which can be completely undone as well through a correction.

Last week, everything did change. Not in terms of the world, but in terms of perceived probabilities. When that happens, watch out below.