We examine four possible Presidential election outcomes and the effect on our portfolios.
Every four years, as the presidential election approaches, there is typically a certain level of anxiety investors feel. The anxiety revolves around the uncertainty inherent with any election. The usual worries being: Who will win? What will be the agenda for the next four years? Where are taxes headed?
However, 2020 has multiple added layers of uncertainty. Excluding the fact that our incumbent President presently has contracted a life-threatening virus, and a large part of our economy is essentially closed, there are four potential major outcomes to this election, each of which will have a strong affect on a fragile, uncertain economy.
Our investment team has analyzed the four most likely outcomes, examining how each would impact the economy, along with likely positive and negative impacts for varying asset classes and sectors. We believe the key to this election lies in which party wins control of the Senate. There are 35 Senate seats up for election this November (12 Democrat and 23 Republican), of which, 12 are considered competitive by the Cook Political Report, a nonpartisan election analytics firm. Presently, the Republicans have 53 seats, and the Democrats have 47. Republicans are defending ten of the 12 competitive races, leaving the Democrats defending just two. While this split appears to favor Democrats, most forecasters consider the outcome of the Senate election too close to call since most of the competitive Republican seats are in historically strong Republican states. With this in mind, below are our thoughts on the different outcomes for the 2020 election, with the first two having the highest probability in our opinion.
Outcome 1: Biden Presidency. Democratic House and Democratic Senate.
A Biden win would likely hurt companies with low corporate tax rates, and those with a high percentage of minimum wage labor, as Biden has stated that both corporate tax rates and the minimum wage would rise. Additionally, his agenda should be a negative for energy, chemical, and pharmaceutical companies. Defense companies have underperformed for most of the year due to worries about a shrinking defense budget if Biden wins.
On the positive side, in addition to the obvious tailwind for alternative energy companies (Green New Deal), we feel the next four years would likely be positive for infrastructure and industrial metals companies, as Biden has been consistent in his narrative for increased infrastructure spending. Consumer discretionary companies would perform well as the minimum wage increases are spent. Chinese and/or emerging market equities would benefit from a de-escalation of the recent trade war. This de-escalation would weaken the U.S. dollar.
In summary, we expect a Biden victory and Democratic Senate would result in higher corporate and personal taxes, increased regulations, and increased domestic spending focused on infrastructure, along with potentially slower economic growth as the new President’s actual policies are announced.
Outcome 2: Biden Presidency. Democratic House and Republican Senate.
We believe this scenario results in the lowest volatility for the economy and markets. The immediate positives lie with infrastructure, industrial metals, Chinese and/or emerging market equities, alternative energy, and healthcare as increased infrastructure spend on highways and bridges, plus keeping the Affordable Care Act (ACA) intact are two likely outcomes. Energy sentiment, although quite negative today, would continue to be negative. However, since Democrats would not have control of the Senate, Biden’s most aggressive policies such as corporate and personal tax increases would likely be infeasible.
Outcome 3: Trump Presidency. Democratic House and Democratic Senate.
A Trump victory, coupled with Democratic control of both the House and Senate would likely result in increased political polarization and legislative gridlock. Although Trump appears to be interested in increasing infrastructure spending, additional policy implementation would be difficult. Domestic political gridlock may cause Trump to turn back to China and trade where he can act without congressional cooperation. Increased trade tensions with China may seep back into Europe, so we believe Chinese, emerging markets, and European equities would face psychological headwinds early in 2021.
Outcome 4: Trump Presidency. Democratic House and Republican Senate.
A continuation of the past four years, hopefully excluding a major pandemic and major trade war. Fears of policies hurting energy, financial, and technology companies would ebb, resulting in probable initial outperformance of these sectors. Companies with exposure to the ACA, along with Chinese and emerging market equities would experience headwinds, at least early in the near term.
How does Osborne Partners adjust portfolios during these uncertain election years? On the positive side, our portfolios are positioned well for all four scenarios with infrastructure and industrial metals exposure, along with many holdings that are minimally affected by either candidate winning. On the negative side, any holdings that may be pressured under the more likely outcomes tend to be more defensive. For example, more than half of our energy exposure is in natural gas and pipelines. Our consumer discretionary holdings have low net exposure to higher minimum wages.
In conclusion, expect uncertainty prior to, during, and after the election. Although investors typically fear election years, history shows election years are neither more volatile nor poor performing. Equity markets rise over 70% of the time during election years, and the average return is 7.1%, within 1% of non-election years. Instead of hiding with abnormally high cash levels, as a style agnostic manager, we are taking advantage of disconnections between fear and the actual fundamentals of investments to position portfolios to succeed in any of the four scenarios discussed.