While Covid-19 and its effect on our health, economy, and financial markets continues to grip the Nation, investors and others increasingly are casting a wary eye at the upcoming November elections. Its potential outcome, possible policy changes, and impact on the investment markets are being carefully scrutinized.
As we entered 2020, the reelection of the incumbent, Donald Trump, seemed rather ensured. The economy sported the lowest unemployment rate in fifty years, progress was being made on the trade wars with China, and markets were at all-time highs.
Fast forward six months. The President has slipped significantly in the polls. Due to Covid-19 the economy has been forced, in many instances, to shut down. Economists indicate we are in one of the worst recessions since 1930. Unemployment spiked to over 14%, although conditions have improved somewhat.
The cause of the economic weakness was not any one person, but rather a pandemic. Nevertheless, frustration over our inability to stamp it out, together with the economic and psychological fall out, have weighed heavily.
The presumptive Democratic nominee, Joe Biden, has said he wants to roll back one of Trump’s signature accomplishments, the significant reduction in corporate tax rates. While there are many other policy initiatives, this is key for the market because of the direct effect on corporate profitability. Biden has indicated he’s no friend of Wall Street, and investors remain wary of what may occur should he prevail in November’s election.
We are not advocating material changes to investors’ portfolios due to a possible Biden presidency. First, historically, the market has done well no matter who’s in the oval office. Split government has in the past produced the biggest returns. A Democratic president coupled with Republican control of at least one of the bodies of Congress has produced the most robust returns.
While there’s a 55% chance of a Democratic sweep of both the Congress and the White House, historically investors have still enjoyed worthwhile returns in that situation. CNBC reported that since 1928 the median annual market return under divided government was 11%, but 8% if unified.
We don’t believe that President Biden would attempt to raise corporate taxes until we are completely past the pandemic. First, depending on how deep the economic fallout is from the pandemic, he may ultimately soften that position. Lael Brainerd, the only Obama appointed Federal Reserve member, has repeatedly warned that fiscal stimulus is needed to supplement the Federal Reserve’s toolbox to sustain the economy. Raising any taxes would constitute fiscal drag, not stimulus, and thus run opposite to Brainerd’s advice.
Nancy Pelosi, the House leader, believes, too, that fiscal stimulus is needed to prop up the economy. She’s threated to keep lawmakers from going home for vacation until a massive stimulus measure has been passed. Similarly, any threat to raise corporate taxes would be antithetical to her stimulus package.
Biden could be beneficial to the economy and the markets. First, he may be less apt to weigh down the global economy by imposing tariffs or similar restrictions. This could spur capital expenditures. While Trump has offered an infrastructure proposal, historically Dems have been more willing to tap the public coffers to build out improvements for our country.
A Dem sweep of both branches could be a positive if it produces a unified approach to battling Covid-19. Biden’s proposals to hike the minimum wage could spur discount retailers, as a group six times bigger than luxury ones.
In any event, political power goes to those that can keep our economy strong. Midterm elections in 2022 will follow shortly so a Biden White House would have to focus on buffing up the economy in anticipation. It’s hard to see how raising corporate taxes furthers that.
Even if you do anticipate a Biden White House, any restructuring plan to cope must consider whether the possible fallout is already anticipated by investors. For example, any strategy to ditch fossil fuels to front run Dems’ efforts to reduce their use must consider if investors haven’t already sold down energy stocks in anticipation. It is well known that the Dems are more inclined to reduce fossil fuel emissions than the Republicans; to who would you sell your energy stocks that is unaware of how a Biden victory could impact that sector?
Investors must think long term. While few will subscribe to Warren Buffett’s definition of long term, essentially a lifetime, few have the agility and track record to advocate overhauling a portfolio every time the political winds shift. Politics and governments tend to be cyclical; today’s fiscal stimulus can easily give way to tomorrow’s need to reduce debt, which can cause an economic pullback that will raise cries for stimulus.
Most investors believe the energy patch could be hit hardest by a Biden win. Given that energy stocks are some of the worst performers in the market over the last decade there may not be much in the way of great expectations to be squashed by a Democratic White House.
The best antidote to low energy prices may be low energy prices and fears of a Demled government. Drilling and exploration are at multiyear lows, financing is scarce, and fears of a toughened stance against the industry should the Democrats take control are palpable. Given that most believe it will take decades to phase out fossil fuel usage, particularly on a global basis, investors could well expect a rebound in oil and gas prices in order to incentize enough exploration to meet demand. Basically, the worst case scenario is already baked into stock prices here.
Banks, insurance companies, and asset managers have been traditionally thought to prosper better under a Republican administration. Higher taxes on profits, more regulation to restrain Wall Street cowboys, and the traditional Democratic skepticism of financiers may make them easy targets should Biden prevail.
So, should you sell your financial stocks? Not so fast. Financials have already lagged the market badly this year, so some concern is already priced in.
Any new administration will want to enlist the good will of banks and other financials. Small businesses have been hit hard from the pandemic and banks are one of the few sources of badly need capital to rebuild. Banks got high marks for being the critical conduits for the much-needed Payroll Protection program financing.
Too, historically Democratic administrations have been associated with higher interest rates. That’s consistent with a focus on spending and assistance as opposed to budget balancing. Higher interest rates could be just the prescription to increase the profitability of financials and thus their stock prices. We would not sell financials in anticipation of a Biden win in November.
A traditional play on a transition to Democratic controlled government is to buy infrastructure plays. That would include construction companies and outfits that supply the raw material for bridges and roads, like steel, concrete, and aggregates. In this age, infrastructure may be expanded to include essential technology for underserved areas, like Wi-Fi in rural or urban areas.
The thinking is that the Democrats are more likely than the Republicans to spend, whether this means raising taxes to pay for it or simply adding to the deficit.
We would not rush to invest in infrastructure stocks. First, President Trump has already proposed an infrastructure spending bill, so some optimism is already priced in. Second, historically infrastructure projects required a certain amount of local or state financing. We are not at all sure that many jurisdictions will be able to pay for any share of the costs and that may delay plans. Finally, it is hard to predict exactly will be the favored infrastructure projects. To encourage more use of mass transit, more dollars may be allocated there versus traditional auto-focused projects, thus making the exact beneficiaries difficult to determine.
The upcoming elections will draw intense interest from investors. Making profitable forecasts will be problematic. It is difficult to determine who will win, what their ultimate agendas will be, and what scenarios are already reflected in current stock prices. Governments, elected officials, and policy positions will come and go. Long term investors may well wish to stay the course and resist the temptation to make big bets on what November may bring.
Note: David Dietze is President and Chief Investment Strategist at Point View Wealth Management.
Point View Wealth Management is an SEC-registered investment adviser and part of Peapack Private Wealth Management. For over 25 years, Point View Wealth Management has been providing customized portfolio management services and comprehensive financial planning solutions for individuals and their families to develop and achieve their financial goals.
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