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As I write, it comes as no real surprise that the US election has yet to deliver an immediate result. Arguably more surprising was the strong market reaction despite uncertainty over the next president, as well as the prospects for a contested outcome as President Trump declared himself the victor and began legal procedures across several states.
The US presidential election has so far delivered only uncertainty – we know the outcome is very tight across a few key states and we will learn a lot more over the next 24 hours. Joe Biden has the most plausible path to the 270 electoral college votes needed to take the White House, but the Biden landslide/blue wave scenario has not played out, with opinion polls seemingly underestimating the support for Donald Trump once again. Part of the reason for this is that exit polls highlighted that voters overall saw the economy as more important than the pandemic (arguably the two are intertwined) and saw Trump as more competent on the economy than Biden. After 150 million votes (the highest turnout for 120 years) the outcome will come down to a few hundred thousand votes across the swing states such as Pennsylvania, where an initial Trump lead of over 600,000 votes currently sits at only 18,229 as postal and early votes are counted. We have a similar situation in Georgia, while Nevada and Arizona also look very close. But the direction of travel in the voting numbers still being counted favours Joe Biden.
We are now seeing the scenario we wrote about last week, where Trump’s ‘on the day’ voting numbers looking strong and then worsening as early and postal votes are counted. As a result, we saw the current president (prematurely) declaring victory and casting doubt on the validity of these postal and early votes – with no justification. It is worth noting other senior Republicans have not yet repeated Trump’s allegations, nor have they echoed his declarations of victory. We are now seeing the Trump campaign announcing legal challenges to the vote counts across swing states. We are in a very strange situation, where Trump supporters have been seen outside counting centres chanting “stop the count” in Pennsylvania, where they are ahead but Biden is gaining ground, while chanting “count the votes” in Arizona, where they think they can catch up with Biden’s lead. Trump will likely continue to complain over the vote numbers moving away from him – but this is inevitable given the way that Republicans predominately voted in person on election day, while Democrats chose to vote in advance or by mail. By the time you read this, the result may well be “confirmed”, but I doubt that will be the end of it, if Trump has his way. States with a margin of victory under 1% can see a recount demanded, and we are likely to see multiple legal challenges over the legality of votes.
Although we have plenty of uncertainty, equity markets seem to have found a positive narrative to cling on to all the same. The strong US market rally of the past few days may seem counterintuitive and some of the strength may have been driven by short covering (forced buying of shares to cover bets on the market falling around the election). For now, it does seem the momentum trade of 2020 has continued. Tech names and long duration assets have found support as the real threat to their continued success – the so called blue wave of Democrats having the Senate and the president, (leading to higher taxes, increased regulation and the chances of huge stimulus), has gone for now. This could have led to economic reflation and higher interest rates sooner than expected as inflation took hold. This risk has receded.
Therefore, rather than a “blue wave”, we are back to the impact of a “liquidity wave”. Maybe markets can live with either president, not least when Congress looks set to remain divided, meaning that significant policy change is less likely. We can focus on the policy outcome more when we know the winner, but with politics divided, i.e. the president (whoever it may be) not having control of Congress, it does point to policy gridlock – and this means markets don’t have to fear the policies around tax from Biden, for example. It also may mean ‘more of the same’ in terms of equity market leadership. History tells us equities perform well in an environment where nothing much gets done in terms of politics, so we may well see the long duration names – the tech giants amongst them – continue to perform well, while the more cyclical value names may have to wait a little longer for the economy to pick up before their own performance improves.
Onto other political matters. The EU-UK trade negotiations between Michel Barnier and David Frost look set for a ‘pause’ to allow the negotiators to discuss progress (or lack of it) with their political leaders. Talks between Boris Johnson and Ursula von der Leyen are still expected to take place in the coming days, but it remains unclear if they can make the breakthrough that is needed to resolve these issues that have been the sticking points for several months. The middle of the month is still seen as the deadline for an agreement given the legal work and ratification process for an agreement to be in place in time for when the transition period comes to an end. The base case remains that a basic deal is reached – it is in both sides’ interests to avoid further economic disruption given everything that is going on with the pandemic. But what makes sense economically is not necessarily what drives political outcomes.
In terms of the Covid-19 pandemic, the case numbers across Europe and the US continue to deteriorate, though a look through the charts suggests that some numbers in Europe may be levelling off, albeit at high levels. The same cannot be said for the US. As the impact of the recent lockdowns and restrictions kicks in, we would hope to see the case numbers level off further in Europe and begin to decline. Of course, the lagged nature of the virus still means hospitalisations and mortality numbers will rise further. The lockdown for England will be in place until at least December 2nd, and the announcement of the extension of the furlough scheme to March 2021 suggests restrictions will be in place beyond this date. As a company we remain mainly working from home, with some key administration functions being completed from the office. It is a shame, but we have had no option but to cancel face to face client meetings for the time being and revert back to zoom meetings or the good old-fashioned telephone! This should not cause any issues to us in providing our usual high levels of service to our clients.
The hope is that restrictions now will suppress the virus, but we are likely to have to live with rolling restrictions with varying levels of severity through the winter months. What is positive, and this is maybe why financial markets have been relatively calm in their response to the worsening situation, is that unlike the first lockdown in March, the monetary and fiscal response is already up and running. There remains more monetary firepower if needed and this monetary support will underpin continued fiscal spending to offset some of the economic damage. It is also worth noting that with schools staying open, this helps maintain economic activity, as does the fact that the manufacturing and construction industries are allowed to continue. This is of little comfort, however, if you own a shop, pub or a café, and indeed the dominant service side of the economy will once again take the worst of the economic pain from the lockdown.
The ‘reflation trade’ narrative that would have certainly helped the more cyclical ‘value’ stocks that have been beaten up (again) this year may have to wait. In the very short term, it seems like normal service has resumed, with US equities dragged higher by a small number of mega cap tech names, and the long duration ‘growth’ style remaining in favour, supported by low interest rates for a long time to come. We have benefitted from this trade in our portfolios year to date and should Joe Biden be confirmed, eventually, as the next US president, a more stable influence on foreign policy would continue to help our current overweight to Asian equities.