Midterm elections can lift U.S. shares

09.11.2018
The Democrats now have the power to block further tax reductions and expansionary fiscal policies, both of which could cause interest rates to rise because of a greater deficit.

We have just finished the U.S. mid-term elections, which was held on November 6th. The Republicans had held the majority in both the Senate and the House of Representatives and were therefore able to push through a series of reforms that have a marked positive effect on the stock market (particularly corporation tax reductions and deregulation). American businesses have benefitted most from these reforms, but at the cost of rising real interest rates resulting from the expectation of a greater public deficit and the accompanying greater burden of debt.
So writes Chief Strategis at Sparinvest, David Bakkegaard Karsbøl, in his latest monthly comment.

The mid-term elections secured the Republicans’ continued control of the Senate, but the Democrats won a majority in the House of Representatives. This means the Democrats now have the power to block further tax reductions and expansionary fiscal policies, both of which could cause interest rates to rise because of a greater deficit. The Democrats can prevent a greater and faster rise in long-term rates, therefore acting as a stabilising factor in the stock market.

Positive statistics after the mid-term elections

The most likely scenario for the stock market after the mid-term elections is therefore also moderately positive. This is supported by a surprisingly positive statistic for the S&P 500 in the periods after a mid-term elections since 1950. In the 17 mid-term elections that the U.S. has had since 1950, there is not a single example of the S&P 500 giving negative returns in the following 6, 9, 12, and 18 months. If we just look at the 6-month return, the lowest was 0.53 percent in 2002-2003, while the highest was 21.47 percent in 1990-1991. The median of 6-month returns is 15.2 percent, which is not a statistic one wants to overlook.

Yet another argument in favour of the current stock market fall being an opportunity to buy is that the pricing in MSCI World has fallen dramatically this year. Due to strong earnings growth and lower share prices, P/E has fallen from 21.5 at the end of 2017 to its current level of under 17. We actually have to go back to 2014 to see a P/E in MSCI World that was (briefly) so low.

It is also important to point out that the OECD’s leading indicators for the U.S. are now starting to rise again after falling briefly, and that the leading indicators from the Conference Board are also keeping a healthily high level. Overall, it appears that investors ought to refrain from pressing the panic/sell button.

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