The three things investors need to know before the US elections:
It may not be as consequential as many believe.
The outcome may be delayed and even if we get a clear winner, both Presidential candidates have been sketchy on the policy details. And, however norm-breaking, President’s don’t govern alone. Congressional elections greatly affect a Presidency. It is more likely than not that we might not get a clear picture immediately. Even if we did, it is ultimately central banks that may set the tone for risk assets. “Let’s wait and see” might not feel like a popular answer these days, but it is a time-tested investment strategy.
What we do know is that the US economy will likely continue to grow and avoid a recession but based on debt. And that inflation will continue to fall but based on China exporting deflation. Meanwhile, fixed income markets are getting increasingly anxious with the debt buildup. Instead of over-focusing on the election, investors should keep their eye on whether bond vigilantes will take aim at the global investment cornerstone, the US Treasury.
This is the first note regarding the US election, “the most important of our lifetime”, as it is often dubbed. The purpose of this newsletter, is to give some perspective to the chaos. And thinking about things, we came to a list of conclusions:
It is probably not the most consequential event of our time. The title is too grand and probably overestimates potential outcomes. “Consequential” is a term best left to historians and not humble market analysts.. History always changes in unpredictable ways. As anything from the Ethics of Time Travel (it’s a real thing) to any time-travel movie Hollywood has concocted would argue, changing the past even the slightest can affect the future in ways we can’t predict. The lesson is simple: The future, which everyone is so keen to analyse these days, is a very fluid thing and a confluence of many factors. For example, the most consequential election in modern European history was that of George Papandreou in 2009, when, months later he revealed that the Greek deficit was 15% instead of 3% and that a Eurozone member was practically insolvent. No one knew how consequential he would become. But his move threw Europe in a tailspin from which, if we are honest, it never fully recovered from.
Influential presidents, like Andrew Jackson, Teddy Roosevelt, Franklin Roosevelt, Woodrow Wilson, Harry Truman, Lyndon B. Johnson and even Richard Nixon or Ronald Reagan transformed the world, but no one called them game-changers beforehand. T. Roosevelt was a dangerous trust-buster with his own “fight club” and his nephew Franklin a “communist”. Truman was a nobody from Missouri, whereas Andrew Jackson and Lyndon Johnson were called out as nearly insane (the former shot someone for “cheating on a horse bet” and the latter enjoyed entertaining press guests with a the occasional display of presidential nudity). With the possible election of Abraham Lincoln (whose election was the final straw for the South to secede), it is very rare that someone has accurately been called “consequential” before they actually became one. Mr Trump’s first stint in office left a mark, to be sure, but nowhere near as terrible or significant as originally considered. But jury is still out. Consequences may take decades to play out.
b) The electoral outcome may not be clear for some time. At the time of writing, staff writers are preparing three, not two speeches for each candidate. A gracious win, a gracious concession and a not-concession. The recent history of the 2020 election suggests (and also that of 2000) the likelihood that we may not know the winner for days. Markets may well position on initial results, but investors have little insight as to judicial decisions on a state-by-state case.
c) Even if the electoral result it is clear, candidates have given us a lot by way of electioneering but little by way of policy. Both have chosen personal attacks and wide promises of economic prosperity. No one has made a pledge to deal with debt. Presently, the US Dollar rallies because Republicans might claim the White House (Tariffs+Fiscal loosening=inflation=higher rates=higher US Dollar). However, others suggest that the Dollar should be weakening in case of a Republican win, as protectionist policies are, at their heart and over the longer term, currency-negative. Democrats have followed a similar path of policy ambiguity. At any rate, the capability of each party to enforce an agenda will depend not just on the outcome of the race for the White House, but Senate and House races as well. Divided government, especially in this partisan climate, is not very potent, and may well result in a presidency too focused on perpetual internal negotiations.
d) Even if the winner, the policy and even the impact were clear, we still don’t know how things would develop for risk assets. Central banks have a big say in risk asset performance. Signs of turbulence could be met with monetary bazookas. Even in terms of consumption the outcome is uncertain. After Brexit a demand shock was universally predicted. It never happened -even if eventually long term growth did indeed slow. As we have often pointed out, knowledge of the future does not necessarily help returns.
It is not anathema for an analyst to say “I don’t know”. Quite the opposite. For if they do, that allows us to focus on what we have a firmer grasp on: the economy and markets. So here’s what we do know:
a) The US economy will likely continue to grow, and inflation will likely continue to fall. The US economy is in the “soft landing”/”no landing” scenario. Despite last week’s low employment figures (dismissed as a consequence of the recent hurricanes), the jobs market is strong. Core and services inflation somewhat persist, but the Chinese slowdown is deflating global goods, offsetting, for the time being, persistent pressures from wages in the services sector. So, when all is said and done, we don’t think that the election will have a significant impact on short and medium-term growth.
b) Growth will be fuelled primarily by debt. Western economies face deteriorating demographics, double deficits (fiscal and trade) and increasingly problematic productivity. AI and new forms of energy efficiency might improve things, or even prove magic bullets, but for the time being the world continues to rely on Microsoft Excel. The IMF projects Debt-to-GDP to grow beyond 140% for the US in the coming years, and it could shoot up even further.
c) Markets aren’t too crazy about the debt buildup, can they snipe US yields? The one area we need to watch is the rates market. Already bond investors took aim at French and UK bonds over high deficits, and even Germany for running higher than anticipated inflation. Both US Presidential candidates have been very generous with their promises, by and large ignoring the debt build up and promising more. Can markets snipe even at the almighty US Treasury?
Where the client-centric strategists and economists in us are itching to dig deep and find answers, the amateur historians and the long term investors revolt. “Let’s wait and see” might not feel like a popular answer these days, but it is a time-tested investment strategy.
This week: Markets will focus almost exclusively on the US election and market reactions. However, investors should not indulge too much in endless electioneering (and possibly judicial challenges). Instead, they should pay attention to PMI numbers which may give us insight about the pace of the economic slowdown and inflation pressures, especially around the services sector. The Bank of England is widely expected to cut rates by 0.25% on Thursday and communicate its intention to be slow and deliberate with the rate cuts, in light of the OBR’s improved growth outlook. On the same afternoon, the Fed is also expected to cut rates by 0.25%. Investors will be closely monitoring communications to understand whether the Fed will also take a more hawkish outlook, as the jobs markets continues to improve. Chinese trade data should tell us whether the world’s second largest economy continues to slow down.