US Election Special Edition

Where we stand.
Democratic nominee Biden is likely to be nominated President of the United States but the Republicans may retain control of the Senate. Biden won 264 of the electoral college votes and 50.4% for the popular vote so far, with Wisconsin and Michigan being called blue, and Nevada or Pennsylvania likely to go the same way. President Trump has not conceded yet and has claimed a legal challenge – however, we believe consensus behind such a challenge may soon wane, both from GOP members as well as from Trump’s inner circle.

Implications for fiscal and foreign policy.
While fiscal policy requires Congressional approval, foreign policy is mostly controlled by the President. If the Democrats control the Senate, the fiscal package may be as large as $2.4tr; however under a likely Republican-controlled Senate it may be roughly half that amount. As foreign policy is controlled by the President, we think we could see better relations with Europe, Mexico and most emerging markets, except China. We think a Biden administration will continue the hawkish stance against China, though perhaps with a broader foreign policy agenda rather than solely focusing on correcting the trade imbalance.

How we think markets have been positioned.
From price action since the early morning on Wednesday, we have observed significant hedging activity becoming a ‘pain trade’. Put differently, many investors had expected significant market volatility from a contested election and for a big Democratic-win. As a result, investors entered election night over-hedged and positioned for wider spreads, higher volatility and wider long-end interest rates. Despite a very close election result, the process has broadly been peaceful and, with a Republican controlled senate, fiscal stimulus is likely to be smaller than investors’ expectations. This means volatility and credit spreads are poised to tighten back, as investors unwind their hedges.

How we are positioned.
We think a Biden administration with a Democratic House but a Republican Senate creates a goldilocks, credit-positive environment. While corporate profits may be challenged by higher taxes, default risk should remain low thanks to a combination of stimulus, which will be more targeted at the real economy, and low interest rates. Within credit, we are long cyclical credits as we remain bullish on a vaccine roll-out in developed economies next year, and therefore expect a faster growth recovery. Emerging market FX should also perform under these conditions, especially considering that investors have remained underweight the asset-class since March on both COVID and election risk. Developed market equity indices are likely to remain flat in this environment, given smaller than expected fiscal stimulus and the likelihood that a Democratic president may push for greater regulation of the technology sector.

To read more on our latest views, please see our Silver Bullet | The Anti-Bubble Portfolio or visit our Insights section.