ElectionWatch: The home stretch
The final weeks of a presidential campaign are akin to running the last mile of a marathon. The final sprint to the finish line is often made despite an overwhelming sense of physical and mental exhaustion. In the midst of a global pandemic and a disheartening absence of civility in public life, voters this year may welcome the end of a grueling campaign almost as much as the candidates.
The introduction of early voting options has altered the dynamics of US presidential contests. With less than two weeks to go before Election Day, more than 50 million Americans have already cast their ballots, either in person or by mail. The early voter turnout was at one point running six times higher than the pace set four years ago. Based on available data from those states that report the party affiliation of returned ballots, Democrats are using the mail-in ballot option more often than Republicans. What remains to be seen is whether they are voting in higher numbers or just doing so earlier in the process to avoid the risk associated with postal service delays.
State of the race
Former Vice President Joe Biden now enjoys a bigger lead in national polls than any prior candidate facing an incumbent president. The key question is whether it will translate into victories in battleground states where the race is tighter, and where the election ultimately will be decided. Secretary Clinton won the national popular vote by 2.1% but lost three critical contests in the Midwest by a narrow margin, costing her the election. Biden appears intent on avoiding a repeat of that dynamic, frequently stumping in the battleground states of Michigan, Pennsylvania, and Wisconsin. President Trump, meanwhile, has been obliged to defend his position in states that he won by relatively large margins four years ago.
This presidential election was bound to be contentious, but the onset of COVID-19 has triggered an unprecedented surge in litigation related to how, and when, votes will be counted. There are more than 350 lawsuits now underway in 44 states contesting the conduct of the election, ranging from the location of ballot drop boxes to the requirement of a witness signature in some jurisdictions.
The likelihood of a contested election has declined in recent weeks.
While a contested election cannot be completely discounted, the probability of it happening has declined in recent weeks, which has buoyed financial markets anxious to avoid the uncertainty associated with protracted litigation.
A referendum on COVID-19
The federal government’s ongoing response to the global pandemic will be the first order of business, regardless of who wins the election. The immediate threat to public health transcends other considerations, but the adverse economic impact of COVID-19 is hard to overstate. The lapse in enhanced unemployment benefits resulted in an abrupt decline in aggregate personal income in August, while more layoffs are becoming permanent. In short, fiscal support is fading and the US economic recovery has begun to lose traction as we enter the home stretch of this year’s election. The service sector, in particular, has been badly battered, and will require additional rounds of stimulus until a vaccine or more effective therapeutics are introduced.
Fiscal support is fading and the US economic recovery has begun to lose traction as we enter the home stretch of this year's election.
Unfortunately, the two houses of Congress thus far have failed to agree on the size and scope of a fiscal package. Democrats in the House passed a bill that revives the enhanced federal unemployment benefit and would send additional fiscal stimulus checks to many Americans. The House bill also provides more financial aid for states and local governments, a provision that holds less appeal for the GOP. Despite intermittent prodding from the president, a majority of Senate Republicans prefer a smaller fiscal stimulus package that includes enhanced unemployment benefits and liability protection for businesses, but excludes additional stimulus checks.
Financial markets have reacted in sync with the prospects of a deal between the White House and Congress. Equity prices have responded positively to optimistic statements that a deal might be struck, and have fallen on news of an impasse. That reaction function alone suggests that investors have begun to attach more importance to another round of fiscal stimulus than to the prospect of a higher tax bill in the future.
Investors have begun to attach more importance to another round of fiscal stimulus than to the prospect of a higher tax bill in the future.
The composition of Congress will be just as important to the development of fiscal policy as the winner of the presidential election. To the extent that Democrats assume control of the Senate in January, which now appears likely, they will still have to negotiate with their GOP brethren. Parliamentary rules in the upper house of Congress require 60 votes to suspend debate for most legislation.
Whether or not the Democrats have enough votes in their own caucus to eliminate the filibuster is an open question that will not be resolved until early next year. Our colleagues in the UBS US Office of Public Policy believe that some moderate Democrats will oppose such an effort, but they might be willing to add limitations to the use of the parliamentary maneuver instead of eliminating it entirely.
The use of the filibuster is an arcane issue for many investors, but one that is likely to preoccupy financial markets in 2021. To the extent that it is retained in any meaningful form, tax legislation will be deferred until later in the calendar year and addressed through budget reconciliation. This will allow more time for an economic rebound on the heels of a fiscal stimulus package and the introduction of a vaccine. The net effect, we believe, will be better investor sentiment.
Revised probabilities
The UBS US Office of Public Policy has revised its forecast for the election. The new forecast assigns a 55% probability to a Blue Wave, where Democrats capture the White House and both chambers of Congress. A status quo result, with the president eking out narrow wins in battleground states and control of Congress remaining divided, is less likely than it was just four weeks ago but still the next most likely outcome. The probability of a Biden victory with a Republican Senate is marginally higher than it was last month but remains unlikely because many GOP incumbents are facing difficult races. To the extent Biden does win, the ability of GOP candidates to fight the tide becomes more difficult. The prospects for a Red Wave have all but disappeared, a far cry from how we began the year before the pandemic scrambled the presidential campaigns.
Market impact on equities
Elections have consequences, but the defeat of the pandemic and subsequent economic recovery will continue to be one of the main market drivers in any election outcome, which bodes well for the equity market over time. That said, a Blue Wave or status quo outcome would likely be modestly better for stocks because it would lead to larger fiscal support relative to a Biden win with a divided Congress.
Blue Wave
A Biden administration would emphasize economic recovery with a focus on infrastructure, green initiatives, and potentially healthcare coverage expansion. Trade tensions could also cool, providing an additional boost. This should offset the impact of tighter regulation and higher taxes. We believe industrials, materials, and utilities sectors would benefit. The energy sector could lag due to green policies. Financial regulation would likely be fairly limited in scope. For healthcare, uncertainty about the impact of a potential “public option” health insurance plan and drug price cuts could weigh on the sector, but we think the most dire policy outcomes are already priced in and, ultimately, greater healthcare coverage would benefit the sector.
Biden (divided Congress)
In a Biden victory with a divided Congress, equities could have a modestly negative reaction. This constellation might produce the smallest fiscal package if the Senate Republicans opt to block most legislation. Still, industrials and materials could benefit from reduced trade tensions. On the regulatory front, utilities would benefit from green initiatives. However, energy, and, to a much lesser extent, financials, could see some regulatory headwinds. Healthcare stocks would likely react favorably to the prospect of more limited than expected policy changes.
Trump (status quo)
In a status quo scenario, policy shifts would likely be fairly small. Fiscal stimulus that supports the recovery would likely come through, but it would be smaller than a Blue Wave outcome. Renewed trade tensions with China are a risk and would have a slightly negative impact on the industrials and materials sectors. Companies in the energy, financials, and healthcare sectors could benefit from a relief rally as some of the policy uncertainty associated with a Biden victory dissipates.
For more insights, including analysis on specific areas of the market such as energy, healthcare, and more, visit our ElectionWatch website.