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Will Joe Biden crash the stock market?
Will stocks go down with a Biden win and Democrat clean sweep?
Joe Biden launched his $700bn economic plan by taking aim at Wall Street, banks, the stock market and shareholder capitalism in general. Based on polling data, the stock market will need to better reflect the chance of a Biden presidency combined with a Democrat clean sweep of the House and Senate.
Biden issued a threat to “end to the era of shareholder capitalism – the idea that the only responsibility a corporation has is to its shareholder”. Biden, whose policies would tend to raise taxes and regulation risk for corporate America, added: “During this crisis, Donald Trump has been almost singularly focused on the stock market, the Dow and the Nasdaq. Not you. Not your families.”
The argument about taxation is central to the thesis, as explained by Goldman Sachs in a recent note. The bank noted the US used to have one of the most uncompetitive corporate tax regimes in the OECD at 37% vs the average 24%. Donald Trump changed that with Tax Cuts and Jobs Act (TCJA) 2017…
Under Trump the effective tax rate paid by median S&P 500 company fell by 8 percentage points, from 27% to 19%, which boosted EPS in 2018 by 10%.
Since 1990, declining effective tax rates have accounted for 200bps of the 400bps increase in net profit margins and 24% of total S&P 500 earnings growth, according to GS.
But Joe Biden could undo the cuts and lower earnings for the average S&P 500 company. Under his plans statutory federal tax rate on domestic income would go up from 21% to 28%, reversing half of the cut from 35% to 21% instituted by the TCJA, according to the Tax Foundation.
GS notes that a Biden presidency could also result in a doubling of the GILTI tax rate on certain foreign income, a minimum tax rate of 15%, and an additional payroll tax on high earners. Biden could increase capital gains tax, which could push investors to sell down stock holdings before it is introduced.
According to GS this would cut the S&P 500 earnings estimate for 2021 by roughly $20 per share, from $170 to $150. So, the average EPS would fall 12% just at the time that earnings need to rise to support valuations. The S&P 500 traded at a forward earnings multiple of about 23x in June – the highest since 2001
Regulation risk would also rise on the expectation that a Democrat-controlled Congress and White House would impose tighter restrictions on corporate behaviour, such as buybacks, and increase the cost of doing business by raising the minimum wage and employer contributions. Finally, higher taxes on the rich leaves less cash to invest in stocks.
Stocks choppy after sharp risk reversal, gilt yields strike fresh lows
Stocks continue to chop around their June-July ranges after risk sentiment rolled over at the start of yesterday’s US session. Surging Covid cases, hospitalizations and deaths in several US states continues to weigh on risk sentiment, Donald Trump was dealt a blow by the Supreme Court, and Joe Biden – who may well become the next president – said he would end the era of ‘shareholder capitalism’.
Around 3pm yesterday we saw a sharp reversal in risk appetite as stocks, bond yields and oil fell and the dollar rallied. California, Texas and Florida reported their biggest one-day increase in Covid-19 related deaths. Stocks hit the lows after Florida reported a spike in Covid-related hospitalizations, but recovered somewhat after Dr Fauci, director of the National Institute of Allergy and Infectious Diseases, revealed Moderna’s coronavirus vaccine candidate would enter phase 3 trials soon.
Supreme Court rules on Trump tax returns, Biden announces economic plan
The Supreme Court ruled Donald Trump’s tax returns should be seen by the Grand Jury, but it threw out rulings that allowed Democrat-led Congressional committees to obtain Trump’s financial records. Although this means further litigation, it should mean the documents are not a factor in the election.
Meanwhile, Joe Biden launched his $700bn economic plan by taking aim at Wall Street a threat to ‘end to the era of shareholder capitalism – the idea that the only responsibility a corporation has is to its shareholder’. Whilst no Bernie Sanders, there is little doubt that Biden will raise taxes and regulation risk – equity markets need to start to price in the risk better and there are signs that some investors already are.
Investors need to be wary of a Democrat clean sweep of the House, Senate and White House, which could greenlight some pretty aggressive redistributive policies. ‘During this crisis, Donald Trump has been almost singularly focused on the stock market, the Dow and the Nasdaq. Not you. Not your families,’ Biden added. After 2008 it was fashionable to bash the banks, now all corporate America is fair game if they are not woke enough. ‘Wall Street bankers and CEOs didn’t build America,’ Mr Biden said.
Europe opens weak, turns green
European shares were choppy after Asian markets fell and China’s equity rally finally ran out of steam. The FTSE 100 fell under 6,000 this morning before paring losses, returning to the low end of its June range. After a weak open, European indices were turning green after the first hour of trade.
The S&P 500 struck a low at 3,115 yesterday before closing down 0.5% at 3,152, flat for the week. Energy stocks led the drop, declining 4% as oil prices sank. Futures are lower and indicate a weaker open at the 61.8% retracement of the June-July range. The Nasdaq rose 0.6% to a fresh record as the tech sector continued to be the only real area of safety.
US unemployment numbers were a little better than expected but continue to show just how long the road is ahead. Weekly initial jobless claims fell to 1.314m, better than the 1.375m expected and representing a decline of 99k from a week ago. Continuing claims fell to 18.06m, a drop of almost 700k and much better than the 18.9m expected. The previous week’s number was also revised down over half a million.
Treasury yields fell, with US 10s back to 0.58% having notched a record low yield on an auction. UK 2- and 5-year gilt yields have hit a record low this morning, following Eurozone and US yields lower. Investors are showing no fears that massive issuance is going to force up borrowing costs as long as central banks remain in full support mode.
WTI through trend support as risk appetite cools
Crude oil fell sharply with stocks as risk rolled over. WTI (Aug) broke down through the trend support and may push lower. From a technical perspective we can start to consider completion of the head and shoulders reversal pattern and look for the move to head towards the neckline around $35. The IEA’s July report this morning suggested oil demand will pick up in the second half and that the worst of the demand destruction is behind us.
The IEA said oil demand this year will average 92.1m bpd, down by 7.9m bpd versus 2019, which is a slightly smaller decline than forecast in the April report, mainly because the decline in the second quarter was less severe than expected. But at this point it remains very hard to say how demand will recover longer-term given we do not know how the virus will progress nor how governments and citizens will respond – at least it seems negative prices were only a blip.
Fresh shutdowns in the populous Sun Belt states remains the worry, albeit we did see a decent draw on gasoline stocks last week, according to the EIA. Nevertheless the IEA noted that the accelerating number of Covid-19 cases is ‘a disturbing reminder that the pandemic is not under control and the risk to our market outlook is almost certainly to the downside’.
Elsewhere, gold fell with risk assets, with the near-term pullback finding support at $1796 and should look for consolidation around the $1800 level. The outlook for gold remains constructive and we should expect lots of pullbacks along the way – nothing goes up in a straight line, and gold is particularly prone to these tactical retreats. In FX, the dollar rallied on the broad drop in risk sentiment. GBPUSD moved down to test near term trend support formed by the bullish channel. EURUSD pulled back from highs at 1.1370 to chop around the 1.1270 region.
US Election 2020: What happens to the US dollar with a Democrat clean sweep?
There are various permutations of results from this year’s US elections, but polling data increasingly indicates a strong chance of a Democrat clean sweep of the House, Senate and White House.
Obviously, the question for forex traders is what this may mean for the USD.
Traditionally the US dollar performs well in election years. The dollar index (DXY) has only fallen in two of the last 12 elections, with the drop in 2012 only marginal.
According to Morgan Stanley, the key is not who wins but whether you get gridlock in Washington or not. The bank sees USD strength from a Democrat ‘blue wave’, that is a clean sweep of the House, Senate and White House. But they also see USD strength from a Republican full house, as unlikely as that seems now based on the polls. The US dollar would be more likely to soften if Donald Trump wins but the House and/or Senate are controlled by the Democrats.
Pandemic changes everything
Historical patterns may not prove much use, however, due in large part to the massive amount of fiscal and monetary easing that has been carried out not just by the US but also its G10 counterparts. This has created an unusual backdrop to the election and means the waters FX traders are swimming in are murkier than usual.
According to researchers at Sweden’s SEB, the dollar rose in the 100 trading days after nine of the past 10 elections from 1980 to 2016. Democrat wins produced a 4% rally on average, whilst a Republican victory saw a gain of 2%.
So, can we expect the dollar to rally after the election no matter what the outcome? It’s clearly a lot more complicated, not least because of the unique macro-economic backdrop created by the pandemic.
Indeed, foreign exchange analysis from investment banks UBS and Crédit Agricole suggests precisely the opposite. One argument is that Trump’s policies of fiscal stimulus and protectionism have supported the dollar, so a Democrat clean sweep could pull these legs from under the USD.
However, there are not many signs of the Democrats taking a more lenient approach to China, in fact both sides seem to be vying to be seen as tougher than the other on China. Therefore, trade disputes and battles of intellectual property rights will, in all likelihood, persist.
On the fiscal side, it’s hard to see much difference – both camps back massive stimulus to support the economy post-pandemic, whilst the Federal Reserve is very clearly prepared to keep rates at zero for as long as necessary. The usual rules of the game in terms of how the dollar responds to fiscal and monetary policy inputs have to a certain extent been thrown out by the pandemic.
Donald Trump has been a little wayward in his messaging around the dollar’s strength – it’s normal for presidents to underscore the idea that a strong dollar equals a strong USA. The ‘strong dollar policy’ has been in place for at least 20 years and initially Trump was seen moving away from this stance.
Whilst he has been more resolutely in the strong dollar camp lately, there is always the risk that post-pandemic the president again calls for a weaker dollar to make the country more competitive.
Relative economic performance and relative expectations of interest rate differentials will be what matters. Will the euro rebound with a fiscal stimulus package? Will the pound stabilise after Brexit?
The euro matters most when we look at this other side of the dollar equation as EUR has an outsized weighting in DXY – more than 50%. So, when we look at USD, or DXY, strength we are also to a large extent looking at EUR too.
The European Central Bank (ECB) has like the Fed responded to the pandemic with a massive increase in its QE programme. Efforts on the fiscal side have been slower, but in spite of concerns among some member states about the nature of stimulus funding, there seemed to be a broad agreement on the need for support.
Crucially right now the more ‘dovish’ policymakers are the more it supports the currency – the worry is that not enough support risks growth, but also creates pressure in bond markets, leading to a widening of spreads between bunds and peripheral yields. The ECB seems to be in ‘whatever it takes’ mode, though we note German resistance to participating in asset purchase programmes. The risk really lies on the fiscal side.
Failure to agree to the fiscal measures being discussed as part of the EU budget talks would be negative for the currency. Whilst an agreement is the base case, it may not deliver fully on its promise and may be a watered-down version to the €750bn rescue fund put forward by the European Commission.
US Election Risk: Corporate Tax Rates
The passage of the Tax Cut and Jobs Act (“TCJA”) in December 2017 lowered the US federal corporate income tax rate to 21% from 35%.
This recent decline in tax rate has been a major contributing factor to profit growth for US companies. For example, S&P Global found that, since the TCJA was enacted, the median effective tax rates for information technology companies in the S&P500 dropped from 21.1% in the first quarter of 2017 to 15.5% in the same period of 2019.
However, Democratic nominee and former Vice President Joe Biden has proposed a partial reversal of the TCJA. The Tax Foundation sees the plan as raising the corporate income tax rate to 28%, reversing half of the TCJA cut.
With the 2020 US Presidential Election just five months away and prediction markets starting to price in an increased likelihood of Democratic victories in the House, Senate and Presidential races, it may be worthwhile considering if the market is pricing in the risk of an increase in tax rates.
Data source: Predictit.org “Yes Price”
In a note earlier this week, Goldman Sachs strategists saw the plan put forward by Democratic nominee Biden as reducing S&P 500 EPS by as much 12% in 2021, while this week has also seen the index trading with a forward PE multiple above 23, levels last seen around the time of the dotcom bubble.
Of course, much uncertainty remains about the specifics of any potential tax reform, as well as five more months of uncertainty before the election race is completed, which could ultimately remove the likelihood of any tax reform.
US Presidential Election 2020: The Coronavirus Election
The outcome of the US Election depends on who swing state voters perceive to be the candidate best placed to fight the twin health and economic crises. President Donald Trump has the advantage of incumbency and healthy campaign coffers, but Democrat Joe Biden polls well in swing states. This is Donald’s to lose, and Joe will be hoping to pick up the pieces.
President Trump’s management of the coronavirus crisis has highlighted the advantages of incumbency: he is the one that can actually do something. A recent poll showed that 44% of respondents thought Trump was the best person to manage the coronavirus, and only 36% responded Joe Biden. The latter has been kept out of the spotlight leading to a recent pitiful poll result that 42% of respondents were either “unaware” or “did not have an opinion” of his proposals for the pandemic.
Will Covid-19 damage Trump’s chances of re-election?
Trump’s approval rating is back to the highs of his Presidency, even as polling over his handling of the crisis remains in net negative “disapprove” territory. The way that voters weigh up their concerns over the health crisis versus the economic crisis will be of critical importance in swing states.
Here the polling looks less positive for Trump. 59% of respondents in Michigan qualified his pandemic response as “too slow”, as did 55% in Florida. As a result, general election polls have given Biden a decisive advantage, with 8-point advantages in Michigan and Pennsylvania, and a slimmer 3-point lead in Florida. This swing-state edge has consequently been reflected in national polls, in which he leads on average by 6 points.
However, these numbers must be read with caution: Biden’s lead is half what Hillary Clinton’s was in 2016 at this point, and his own shaky numbers over the handling of coronavirus will be put under strain once he goes through the scrutiny of an election campaign.
Despite these key swing-state leads, Biden has been unable to build the momentum necessary to make that lead more convincing. A credible sexual assault allegation has gained a lot of attention, and he has thus far failed to fully lock up the progressive left of the party, despite receiving endorsements from Sanders and Warren, which has translated in weak polling numbers with young voters.
Biden presidential bid faces pitfalls over running mate and campaign financing
Biden has the opportunity to boost his campaign by choice of running mate, but even that is laced with potholes. Klobuchar and Harris are too centrist for the Sanders voters and they blame brother Bernie’s woes on Warren staying in the race too long.
Biden already does well with minorities and the Midwest so the impact of Klobuchar/Harris would be minimal among those groups whilst confirming to the left that Biden will run a centrist campaign. In short, the process of selecting the VP will only re-open the deep divisions that exist within the Democratic Party.
Biden faces an uphill struggle given the financial constraints his campaign faces. As of the start of April, the Biden campaign had a cash deficit of $187m on the Trump campaign, which will be even more difficult to make up virtually and in the context of an impending recession.
This hasn’t stopped the Biden campaign from investing heavily in swing states: they have spent more than the Trump campaign in digital advertising in Wisconsin, Michigan, and Pennsylvania; despite this, they are being outspent in North Carolina and Arizona. These weaknesses could potentially be major roadblocks should they not be resolved, with virtual eyeballs ever more important now that so many people are just kicking their heels at home.
Will vote-by-mail expansion swing US Presidential Election for Biden?
In addition to the role the economy and Joe Biden’s momentum will play in the election, the conditions of the election itself will be incredibly important. Firstly, Justin Amash’s Libertarian bid for President, amidst questions of how third-parties can collect the signatures necessary to appear on the ballot, will likely play in Biden’s favour, especially in the key state of Michigan, which Amash, a former Republican, represents in Congress.
How voters will be able to vote in the context of the pandemic will play a crucial role too: some blue states have made vote-by-mail universal, while the measure has received resistance from Republicans.
This is likely because recent electoral results have indicated that expanding vote-by-mail favours Democrats, as the easy access to the ballot has increased turnout in their favour. This will be important amidst the many ongoing legal and political (both in statehouses and in Congress) battles over how to secure the vote in November.
Will Trump win over voters with renewed attacks on China?
The coronavirus has also brought new issues to the fore. Now that Trump is unable to run on the strength of the economy, he has pivoted to the issue of China. He is painting Biden as complacent with China, who he has repeatedly blamed for the coronavirus pandemic.
The heightened tensions between China and the USA will likely endanger their relationship, and push Joe Biden to adopt more aggressive rhetoric towards China. The diplomatic consequences could endanger their cooperation in the future, and push them into a neo-Cold War-esque rivalry.