UK equities
07 Nov 2018 | By Nicholas Wall, Ian Heslop, Richard Buxton

US mid-term election results: Merian Global Investors managers comment on a divided Congress

As Democrats gain control of the House, and Republicans increase their influence in the Senate amid a high voter turnout, our managers comment as currency and futures markets display muted reactions.

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US ELECTION RESULTS SHOULD BE HELPFUL FOR RISK ASSETS

Richard Buxton, head of UK equities and manager of the Merian UK Alpha Fund

  • Less fiscal stimulus
  • Weaker dollar
  • Constructive for risk assets

Democrats winning the House is likely to mean slightly less fiscal stimulus going forward. The bond market may take that well because the Federal Reserve will have less work to do. That would be good news for emerging markets – with fewer rate rises ahead and a dollar that’s not so strong. This in turn would provide some relief to emerging markets. It should generally be a more constructive environment for risk assets.

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DEADLOCK RETURNS 

Ian Heslop, head of global equities and manager of the Merian North American Equity Fund.

  • Capitol Hill gridlock can often be a good outcome for equity markets
  • Trump’s plans for further tax cuts likely to be curtailed but his foreign policy reach remains intact
  • Investment backdrop still uncertain – a well-hedged stance remains appropriate

It’s been a frenetic few weeks and months for US political commentators with the mid-terms dominating virtually all rhetoric. The experiences of the past few years – the EU referendum, the 2016 US election and the UK’s 2017 election – have reiterated the futility of forecasting and of placing too much weight on any particular likely outcome. The electorate, too, seems more awake to the possibility of electoral surprises.

That said, election results always carry equity market significance. The Democrat House gains (and overall control) were largely expected – and priced in – and will most likely be met by a shrug of the shoulders by the market; yes, President Trump’s plans for further tax cuts are likely to be shelved, but a greater Democratic voice on Capitol Hill increases the chance of gridlock – often a good outcome for equity markets. Foreign policy remains the one notable area in which this result does not really hamper Trump’s powers – muscle-flexing on this front still looks likely.

The US dollar slipped this morning, while US equity market futures are up on the news. Asian markets ended up marginally negative overnight.

As the mid-terms loomed, portfolios managed by the MGI global equity team have remained well hedged. Our long momentum stance hurt during the October sell-off and this emphasis has been pared back. The prevailing economic backdrop is an uncertain one; while the earnings and headline GDP growth pictures look relatively rosy, US Federal Reserve policy is changing and liquidity is being withdrawn. We maintain that a hedged view in this in environment is entirely reasonable.

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DEMOCRATIC MAJORITY IN HOUSE ELECTIONS MAY SIGNAL SLOWER US ECONOMIC GROWTH

Nicholas Wall, co-manager, Merian Strategic Absolute Return Bond Fund

  • Expect less fiscal stimulus, lower US economic growth
  • China trade policy probably won’t change
  • Global economic growth to synchronize

US economic growth expectations should be lowered as it’s unlikely that we see further fiscal stimulus. The Democrats won’t agree to further tax cuts, while they may also be reluctant to endorse an infrastructure bill that boosts Trump’s chances of re-election in two years. With a split Congress we could also run into issues on the budget (December), risking a government shutdown, and the debt ceiling (March 2019).

On trade, anyone hoping that the Democrats’ win will see a more moderate tone may want to think again – belief that China has engaged in unfair trade practices is not purely a Republican trait. There is a potential curveball though if Trump switches his focus to the economy and the stock market to win over moderates turned off by his aggressive campaign against immigration. In this scenario, there may be potential for a thaw in the trade war.

In terms of markets, we believe that we are seeing the end of US exceptionalism and global growth can resynchronise–albeit at a lower level than in 2017, with outputs gaps shut and government spending no longer accelerating. The US is running large twin deficits, and textbooks suggest should lead to a weaker currency.

However, high front-end yields and strong growth meant that capital inflows kept the US dollar overvalued this year. This strong dollar, the world’s predominant funding currency, has led to higher volatility in the rest of the world. As the effects of stimulus wane, and with the potential for a trade war thaw, we expect to see US risk assets and the US dollar underperform vs. the rest of the world as capital flows back out of the US – a not unwelcome development.

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