One of the most common expressions among investors is “stock markets hate uncertainty.” To prove the point, you don’t need to look much beyond the performance of equity markets for the month of October. After a valiant attempt at a bounce off the September lows in the early weeks, markets gave back the gains and then some as the month came to a close.
The reasons for the sell-off are many, but in hindsight it should have been expected to everyone watching. The US election date of November 3 has been hanging over us all year. The closer we got to that date, we had to expect trading volumes would dry up and volatility would increase. Markets didn’t really have a chance, especially after you add into that a surge of COVID-19 cases in Europe and North America that is threatening increased lockdowns and the failure to get a new fiscal stimulus deal in the US.
What is going to break us out of this slump? Well, getting a clear election result on November 4 or shortly after would be a start. To begin the year, if you asked many market observers about the best outcome for the election, they would have said we need Trump to win a second term and keep his policies of low regulation and even lower taxes. However, post-COVID, that narrative has changed to now favour Biden and a Democratic blue wave.
For many investors, the dream of a blue wave in the US election isn’t so much about policies on social programs or an improvement in the global perception of America. It’s all about the money. As global economies continue to struggle to get back on their feet after the initial lockdowns, the next chapter of fiscal stimulus has been hung out as a saving grace for markets and the economy.
Whether it’s even needed at this point is debate for another time. However, the current expectation is that in the event of a blue wave, by early 2021 we will see one of the largest fiscal spending programs in history launched into the US economy. The numbers being mentioned are stunning – up to US$4 trillion towards health care, infrastructure and directly to consumers.
If such a stimulus program is enacted, its effects will be felt globally. This will affect currencies (maybe a lower US dollar) and most importantly interest rates. As the US economy is already starting to recover, this money could kick it into high gear, dragging every other economy higher with it. With global inventory levels already very tight due to a combination of supply issues and consumers spending on goods versus services, reflation is a very real probability and could turn bond yields higher.
For the last decade, we have been in a period of declining bond yields which has allowed investors to benefit by tilting towards long-duration assets, such as government bonds, growth tech, utilities and defensive equities. In the event of reflation and higher yields, cyclical sectors that have underperformed, such as financials, may finally get a bid. The long-awaited rotation may finally arrive.
It all comes down to this election and getting it over with. At this point, even a status-quo outcome would be positive. We really just need to move on. It’s almost become a heads you win, tails you win scenario. As a result, the worst-case scenario ends up being no clear outcome.
A contested election that is fought in the courts for months is a real possibility and one that markets should fear. It would prolong the uncertainty as well as delay the next fiscal deal. A clean win by either side is really what we need.
As Canadians, it would be nice to ignore the US election and instead focus on what is going on within our borders. This time around, that feels virtually impossible. Our economies and markets are too intertwined. The actions from our government and central bank often follow theirs.
Will we see trade policies normalize under a President Biden? Will recent tensions with China go away? Is a focus on clean energy going to return to America? All of these questions are important and will impact the Canadian markets. Hopefully, we can begin to answer these questions, but at least knowing which questions to ask will be a positive. The next few weeks will be volatile, but once we’re on the other side we should be setup for positive outcome. We just need to move past the election and add some certainty to markets.
— Greg Taylor, CFA is the Chief Investment Officer of Purpose Investments
All data sourced from Bloomberg unless otherwise noted.
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