US election big risk is uncertainty
2 November 2020
The big risk to the markets from the US election is a perpetuation of the uncertainty of ‘who has won’, says Chris Tinker, co-founder of Libra Investment Services.
Although the outlook for the markets in any pre-election period is prone to uncertainty, the nature of the US election is especially important.
Economics always matters. Prior to the emergence of Covid, “The economy…stupid” was set to take centre stage for the Trump re-election campaign and was his major card to play. Now, at least in part because of the economic reversals we have seen since the spring and early summer, the dominant narrative of the media and the polls over recent months has been one of a Biden win.
However, the centrepiece of the Democrat campaign is not their economic plan – it is the failure of the Trump administration to defeat Corona virus and the disastrous impact that this has had on the economy. That and the identity politics “Orange man bad” mantra of the Anti-trump supporters has carried the momentum towards the ‘anyone but Trump’ position of many. A relentless focus upon Covid-19 and a “second wave” is a further supportive narrative of the Biden campaign.
However, the potential Biden economic plan HAS to be considered by the markets and this is actually the major risk as it is not clear what that plan is. Investors have to look beyond the headlines. Biden is trying to tread a thin line between the Green New deal of the “progressive left” and the mid ground of the majority of the Democratic voters. His views on the Energy industry are a tough sell in the Oil states and the minimum wage argument is a hard pitch to make to small and mid-size employers who are wondering if they can even keep people on the payroll – let alone increase wages in the absence of an economic recovery. Meanwhile, raising taxation – both personal and Corporate – would be taken very badly by markets.
No-one in markets really believes in the positive impact of tax rises on the economy – whatever the politicians or their economic advisers say.
Biden’s socialist bias
So, despite the ongoing narrative around the inevitability of a Biden win, the problem is that “Bidenomics” is likely to be significantly more socialist than most voters want to see. When Kamila Harris says to voter rallies “…a Harris administration, led by President Biden…” the message is not a comfortable one for those watching the economy given her strong left-leaning economic bias and the overt calls from the AOC contingent that they “expect” Biden to pack the cabinet with progressives, shows that the outcomes of a Biden win may actually be more negative for the US economy and the market than many casual observers assume.
Bidenomics is also essentially insular: trade and trade deals are not going to be a policy priority unless they happen to align with a more progressive policy agenda and tie trade into policies associated with the Paris Accord or other globalist positions.
Despite attempts to court the Biden camp by those surrounding Number 10, there is likely to be little mileage to be had from a Biden team compared to the proactive (albeit conditional) stance already indicated by President Trump.
At this point in time, all of the market talking points – both positive and negative – are those directed by the Biden campaign. The spin is to see all of these as potential positives – even if the short term is more negative. However, the market also recognises that a Trump win will see positive returns to more “normal” economic prospects. Trump maintains that ‘we are beating the virus’, whilst Biden is taking a far more negative stance.
The big risk
The big risk to the markets is a perpetuation of the uncertainty of “who has won”. It seems quite likely that Trump will “appear” to have won on the night given the mail in ballot story, so unless that appears overwhelming in the swing states, we are likely to see that uncertainty persist for some days.
Given that the S&P500 – despite the most recent corrections – remains basically in line with its underlying value trend, there is a downside risk that, according to our measure of the “Margin of Safety” – the limit to which the market could fall under a worst case scenario – would see a fall of around 30%. This range is higher than it was in the past because of recent events (it is essentially an implied volatility measure like the VIX) when that fall might have been limited to something more akin to 18%.
However, the upside opportunity has also expanded. A better than expected outcome for markets – a clean win by either candidate, resolution of the Covid crisis via a vaccine or other game changing events – could provide for a 20-50% upside from here.
The caveat to this, however, would be that the market would actually be likely to play opposite to the current narrative. A Biden win would be a selling opportunity given the impending economic policy shift and the more emphatic the win, the shorter the bounce.
By contrast, a clear Trump win would lead to a repeat of the 2016 playbook by markets as they saw a pro market policy agenda being driven aggressively from 4 November from the Trump White house.
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