Why investors like deadlocked US politics.
There are potentially interesting changes afoot at present in the mood of financial markets.
Doom and gloom that we have endured for much of the past 12 months as securities and broader asset pricing has necessarily had to adjust to deteriorating underlying fundamentals spurred by a spike in inflation might, and I stress might, appear to be abating.
We are seeing some recent gains in stock markets – I read my October review of the returns posted by key share markets and certain leading funds and the pages were filled with green rather than red ink which hasn’t happened for quite some time. The NZSX50 gained 2.5% in October, the ASX200 was up 6.0% while the Dow Jones (DJIA) leaped 14.0% and has continued its gains up a further 1.3% month-to-date. I have recently seen some commentary that the US Federal Reserve (the Fed) might be considering slowing its rate of increases to its Fed Funds rate, acknowledging the lag between past rate rises and inflation indicators. For example, used vehicle prices in the US continue to slide with its nationwide price index falling 10.6% over the past 12 months, the fifth consecutive month of declines. Commentators think this trend may be a strong indicator that rate rises to date are beginning to bite and therefore may suggest inflation could surprise on the downside over the coming months: i.e. the tightening is working. But a clear driver of stock market gains particularly those in the US is the mid-term elections, the results of which should be known by the time you read this article. The widely expected political shift to the right in the House and maybe even the Senate is seen by markets to be positive for all the reasons that were negative influences over the past couple of years: Government spending and associated borrowing, inflation and interest rates in particular.
The mid-term elections and possible shift in both the House and Senate majorities are no doubt fueling the recent market gains as participants speculate that such a change could affect future levels of government spending and regulation i.e. less of both. Market participants are expecting Republicans to take back the House of Representatives and possibly win the Senate as well. Investors tend to like the “gridlock” in government brought about with a divided Congress and President because it usually limits government spending, new taxes and regulation: it’s difficult for any party’s agenda to get through.
Overall, history shows markets tend to gain immediately after and up to 12 months following mid-term elections as investors are relieved to get some clarity on future policy. Since 1946, the market has been up every time in the 12 months following a mid-term election, and up six months after a mid-term election every time since 1950. There have been four instances since 1948 where a Democratic president was paired with a Republican-controlled Congress. Those periods had average two-year gains of 41% for the broad S&P500 index. So if this combination has been repeated this week we may be in for a more favourable couple of years! In the current election though, the initial financial markets’ reaction to a Republican win may be somewhat muted, as this outcome looks to have been anticipated and “priced-in” by markets with the gains seen over the past couple of months. A surprise Democratic win in both the House and Senate would be highly likely to undermine share markets, as market participants might expect additional corporate and other tax increases as Democrats persist with their high tax and spend “Build Back Better” agenda.
I’m even seeing some commentators turn bullish on their predictions for share market performance over the next year or so. “Markets are closer to recovery than recession…” was the headline in one article which also pointed out that the stock market’s relatively flat performance over the past five months may be a signal that a new bull market is starting to prepare itself.
So what can we take in the New Zealand context from these changes in the US political landscape, namely a shift to the right? Well, we’ve arguably had our own shift in recent months with recent local Government elections recording a clear preference for centre-right candidates most significantly with new mayor Wayne Brown here in Auckland. It will be interesting to see whether this continues with the Hamilton West by-election coming in December 10th, notwithstanding by-election results are not certain current indicators of the political mood. We have however had consistent poll results over the past 12 months which show declining support for Labour, Labour+Greens and increasing support for National, National+Act. As in the USA such a shift to the right at next years general election will almost certainly be seen as positive for the New Zealand economy and securities for many of the same reasons: likely increased fiscal and monetary discipline with focused and/or reduced Government spending and therefore borrowing. A reduced personal tax burden commensurate with reduced spending both from threshold and rate re-alignment. A renewed RBNZ mandate emphasising inflation over and above other non-monetary or price stability considerations. All things equal these changes will be positively accepted by financial markets and likely to see some easing in inflation expectations and therefore the interest rate track. What we are currently seeing in the US makes for an interesting year ahead for New Zealand indeed.
I just have to finish with the following: I wrote a few weeks ago of the Government’s proposed agricultural emissions pricing scheme and that its own experts predict that these charges could see New Zealand’s dairy output reduce by around 20% and beef and lamb by as much as 65%. Well, Beef and Lamb New Zealand shows the folly of the scheme and, in my view, kills it in its tracks. Using analysis from AgResearch and MIA shows that the carbon footprint created by someone eating New Zealand produced (ie efficient and low-emission) red meat two to three times a week over the course of an entire year is less than the carbon footprint generated by a single passenger’s return flight from Auckland to Christchurch. ( https://www.beeflambnz.co.nz/news/2022/11/8/lca-update). Go figure…