This note contains an overview of our market views, what we are watching, and our portfolio strategy. Any reference to portfolio positioning relates to our flagship discretionary portfolios. Clients with bespoke or advisory portfolios should consult their Client Advisor for the latest update on your portfolio.
Anticipating markets’ reaction to the elections
It’s still impossible to predict who’s going to be the 47th US President as Americans head to the polls on November 5th. However, since October, the odds of a Donald Trump win and Republicans winning both chambers of Congress (the Senate and House of Representatives) have risen, with Kamal Harris narrowing the gap (and coming fractionally ahead in some surveys of voter intentions) over the weekend.
Below we highlight some scenarios:
Scenario #1: Trump wins, and the Republicans win both chambers of Congress
Trump winning the presidential vote and the Republicans both chambers of Congress is the so-called ‘Red sweep’, which markets seem to be anticipating: equities in the US have outperformed those of other regions and the US dollar has strengthened on expectations that US economic growth outpaces the rest of the world; US Treasuries saw yields rising and prices falling on expectations that wider public deficits could be negative for bonds.
As this appears to be the scenario that investors tend to expect, any result other than a ‘Red sweep’ could lead to a significant market reaction. This is because markets move in anticipation. You’ll often read that scenarios are ‘priced in’, meaning that if a scenario plays out as the market expects, there won’t be much of a reaction. Below, we’ve outlined the three possible scenarios that could move markets in a sizeable fashion.
Scenario #2: Trump wins, and the Democrats win one chamber of Congress
We believe this scenario could lead to tougher tariffs and immigration laws but no tax cuts without the approval of Congress. This could be negative for US equities as labour costs would be higher, and there’s no tailwind from tax cuts. Additional tariffs and trade barriers could also impact emerging market equities. However, given that this scenario likely means slower economic growth, bonds could benefit.
Scenario #3: Harris wins, and the Democrats win both chambers of Congress
The potential for higher corporate taxes and perhaps more regulations could dent sentiment for equities and the US dollar, albeit moderately, as higher spending and loose immigration policies could be partial offsets. Harris’ fiscal deficit, while significant, is expected to be smaller than Trump’s and not spur inflation that much, allowing the US Federal Reserve (Fed) to carry on with its interest rate cuts, which would support bonds.
Scenario #4: Harris wins, and the Republicans win one chamber of Congress
This could mean loose immigration policies but no increases in spending. This is perhaps the mildest scenario for markets’ reaction, similar to a ‘Red sweep’, at least directionally, but perhaps less in magnitude.
To be fair, there’s a fifth scenario where results will be delayed for weeks or even months. They’ll almost certainly come after a few days, but this could be the worst-case scenario for markets, with a flight to safety likely. And, therefore, lower equities and higher prices for government bonds and gold.
How we’re positioned for the US elections
If anything is possible, how do we build portfolios to prepare for such events? Our analysis shows that staying invested over the long term provides greater returns than attempting to predict what will happen in markets over the following days or weeks, especially when the driver is political events. The risk of getting it wrong is high in these cases, often resulting in missing the best performing days. So, in such an uncertain context, diversification is key. We’ve diversified across asset classes and geographies to mitigate potential downturns. By doing this, an unexpected result would have a reduced impact on performance.
We’ve also added direct mitigators such as the ‘insurance instruments’ for the US and Europe, where clients’ expertise and knowledge as well as regulations permit, which appreciate when the equity market goes down. And we own fewer US Treasuries relative to our long-term, strategic asset allocation as we don’t want to be overly exposed to this market until we get clarity on the US fiscal path. Furthermore, we don’t have any tactical position on emerging market assets across equities and fixed income until we get clarity on US trade policy and the potential for extra sanctions and tariffs.
Besides the US elections, it’s central bank decision time
Inflation and growth came in higher than expected in the Eurozone last week. However, we continue to expect the European Central Bank (ECB) to proceed with four to five interest rate cuts between now and the end of 2025 as we think inflation will settle around the 2% target in 2025 against the backdrop of a slow growth environment. Elsewhere in Europe, the central bank of Sweden is likely to cut interest rates this Thursday, with markets debating whether the reduction will be half-percent or a quarter-percent.
In the US, inflation came in broadly as expected, and growth data showed robust consumer spending. The jobs report was a huge disappointment, creating only 12 thousand jobs, significantly less than expected and showing more subdued job creation in prior months than initially reported. However, this was distorted by the impact of hurricanes and the Boeing strike, so we expect a rebound. With job openings continuing to weaken, though, we believe that the US labour market is cooling down. We think this provides the Fed with another reason to cut interest rates, albeit slowly. We expect the Fed to lower its key policy rate to the 4.5-4.75% range, down from 4.75-5% (Thursday).
In the UK, markets will continue to assess the Budget effects. After an initially positive reaction during the announcement, gilts yields started to trend higher again, showing concerns about significant public-sector borrowing. The FTSE 100 equity index reacted negatively as well, even though it started to recover later last week. The pound sterling looks virtually unchanged and we expect it to move sideways in the near term. These markets could be impacted by the Bank of England’s interest rate decision this Thursday. We think the central bank will lower interest rates again, to 4.75%, and we expect additional cuts over the next several months. Further out, though, if bond yields continued to rise, it’s possible that the Bank could cut less than currently expected by markets.
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Information correct as of 4 November 2024.
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