This will mark Part 1 of our 3-Part Series on Politics and the Markets: The Landscape, An Update, & The Aftermath. Remember that philosophically our firm is agnostic to politics and simply focused on how the markets might be affected by the differences in tax policies & legislative/regulatory changes without bias.
One of the key factors in the market’s response should center on Biden’s tax proposals in corporate tax rates. Back in 2017 corporate tax rates were cut from 35% down to 21% and Biden is proposing to bring these back up to 28%. By our estimation, this corporate tax increase alone could reduce earnings per share of S&P 500 stocks by 8 – 12%. This would be offset by fiscal spending packages, but the initial stock market impressions would likely be negative. In addition, Biden is proposing doubling the tax rate on foreign intellectual property earnings which could hurt the Tech Sector, much of today’s S&P 500. This is where companies with strong balance sheets and stocks with lower volatility could shine.
As a political strategist and marketer, Trump should not be counted out of this race. The polls have narrowed since July and Biden’s once solid lead in Michigan is now down to 5 points, on pace to be tied by the first debate on Sept 29th. A few of the biggest winners from the tax cuts of 2017 were Financials, Industrials, & Telecom Stocks. With 4 more years of low taxes in place, we would anticipate larger returns from higher risk or momentum factor investments.
Now keep in mind that the markets will not wait until these tax laws are in place to react. The market is a makeup of future expectations, so it takes no more than a strong possibility of events to trigger large market movement. This gets us to October 2020. VIX futures (chart below) are used as a kind of insurance against volatility, which comes in a much heftier price heading into the election than any of the months surrounding.
And though investor anxiety is set to be high, with the House and Senate divided we would question how many of these tax proposals will actually turn into law? The House has a +95% chance to be reclaimed by the Democrats so the key battle comes in the Senate. Republicans are defending 23 seats while the Democrats only 12. If the Democrats can net 4 seats, they flip the Senate and give a clear path for the tax changes that Biden might propose. The real underlying battlegrounds are happening in the Senate races in: North Carolina, Colorado, Arizona, & Maine. If these 2 bodies of government remain divided there will likely be much more political gridlock than what the markets might react to.
Stay tuned for Part 2 where we explore how market trends have changed in what could be a volatile October month and check out this ETF.com interview of Advisor Sam G Huszczo, CFA, CFP discuss avoiding the herd mentality in investing in the 1st article below: