The U.S. presidential election is a discomfiting time
for those strategists accustomed to changing investment
positions after minute analysis of the carefully measured
comments of Ben Bernanke, Mario Draghi and other central
Markets have a tendency to overinterpret what these bankers
say, because at times so little of their true thinking is
However, when it comes to elections, the opposite is true.
Politicians promise the earth to win over the electorate and
then deliver much less.
Morgan Stanley encapsulates this slightly unreal world of
political promises in a recent currency note, saying:
While we know what the candidates stand for, we will only
know after the November 6 election day how much these policies
may have to lean towards compromise. Hence, the long-term
implication of the outcome of the election may be very
different to the initial market response.
A rational response is, therefore, to glean those promises
that are more likely to be delivered, from the mass of more
doubtful practicality looking mainly at Romneys
promises, since Obama would broadly maintain the status
Mitt Romney, the Republican challenger, proposes a more
business-friendly tax regime, including a cut in corporation
tax from 35 to 25 percent steeper than the promised
reduction by Barack Obama, the Democrat incumbent, to 28
percent. Lower taxes for business are key to Romneys
pledge to boost the supply side of the economy, so one can
assign a relatively strong likelihood to their implementation.
These tax cuts would support U.S. equity prices across the
board, by increasing corporate earnings.
Looking in more detail within equities, Romneys
promise to increase defense spending and encourage oil and gas
drilling would benefit companies in the sector. The other side
of the coin is alternative energy, championed by Obama but not
by Romney, whose stock prices would suffer a hit if the
Republican candidate won.
However, other possibilities look more uncertain.
Romneys more hawkish line on quantitative easing (QE)
could potentially prove fertile ground for short-term
preelection betting but the strategy has its flaws. If
he wins, he is likely to appoint an inflation hawk to replace
Bernanke when the Fed chairmans latest term ends in
January 2014. This could mean that QE ends earlier or is
reduced in size in future years. Morgan Stanley says that if
markets price in this possibility following a Romney victory,
the yield curve would steepen: Investors would sell Treasuries
further out along the curve in the expectation that these
longer-dated bonds could no longer rely on the Fed life-support
machine. A reelected Obama would, however, be likely to
reappoint Bernanke or a chairman with similar views
allowing Treasury yields to remain low for a long time.
Following this logic, many analysts believe an Obama victory
will, by allowing a looser monetary policy, weaken the dollar,
with a Romney triumph boosting it.
But if Romney wins, investors will not know for many months
hence which chairman Romney will pick. Nor can they know for
sure what he (the three front-runners are men) will do if
appointed. Central bankers tend to respond relatively
pragmatically to changes in circumstance, and the credit crunch
and its aftermath have only increased this tendency
forcing them to overturn their previous assumptions in response
to each new drama-filled year. In conclusion, taking views on
Fed policy might prove too fanciful a bet.
HSBC differs from much of the received wisdom by suggesting
that a Romney win could be bad for risk assets. A
combination of tightening fiscal policy, a Fed with a
potentially diminished appetite for QE and China being named as
a currency manipulator, is not a happy one for risk
appetite, it says. There is speculation that Romney would
try to reduce the deficit next year; he has also said that on
day one of his presidency, he would label China a
currency manipulator. HSBCs choice of weapon, in reaction
to these possible outcomes, is to buy the dollar and sell the
Mexican peso, because the Mexican economys high exposure
to the U.S. gives it a strong positive correlation with U.S.
risk assets. An alternative, based on the same logic, is to
sell the Canadian dollar and buy the greenback, but HSBC says
the dull, low-volatility Canadian currency does not offer
the drama of the peso.
But many analysts believe that when it comes to China, Romney's
bark will be worse than his bite: In practice he will pursue a
more nuanced diplomatic game than his tough talk implies, so
that U.S. companies can continue to profit from China's low
labor costs and promising consumer market.
To many analysts, such considerations pale beside the question
of whether the U.S. can resolve its fiscal cliff problem
where taxes rise and spending falls automatically at the end of
the year, absent any agreement otherwise with enough
rapidity to prevent a double-dip recession. A comprehensive
deal would boost equities and other risk assets, depressing
However, the resolution of this issue does not depend on who
wins the keys to the White House. It depends on whether the
winning party also clinches a majority in the Senate and the
House of Representatives a scenario that is looking
For those institutional investors wary of making any kind of
play on the U.S. election out of reluctance to base an
investment decision on the uncertain consequences of an
uncertain result, an alternative is to rely on the special
field of technical market analysis peculiar to U.S.
Deutsche Bank finds, for example, that after close contests
and there have been few closer than this equities
tend to rally. This reflects markets hatred of
uncertainty, whatever that uncertainty may be.
Investors not interested in short-term tactical plays have
plenty enough to ponder on the eve of the election. The next
four years could see China seriously challenge the U.S.'s
position as the sole economic superpower. If it takes on this
challenge and succeeds because of a lackluster presidency, all
assumptions about the dollar as the worlds reserve
currency and U.S. Treasuries as the worlds premier safe
haven assets could be in jeopardy. It is difficult to see any
issue with bigger implications for institutional investors than