Joao Gomes, David Kass and Erik Jones on the post-election outlook for capital markets.
Wharton finance professor Joao Gomes, University of Maryland professor David Kass and Johns Hopkins University’s director of European and Eurasian Studies, Erik Jones, discussed the likely effects of the upcoming election on capital markets on the Knowledge@Wharton show, on Wharton Business Radio on SiriusXM channel 111. (Listen to the podcast at the top of this page.)
Here are five takeaways from their discussion:
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Outlook for Markets and Volatility
Gomes says the markets would be “fairly comfortable” with a Clinton victory so long as “that includes a Republican majority in at least the House of Representatives.” But if the Democrats were to take over the House, which now appears unlikely, then he would expect more “swings in valuations” and more nervousness about tax policy and regulation in the years ahead. Kass agrees. “The market is more comfortable with a Clinton election; there is a lot more uncertainty associated with a possible Trump election.”
“The markets have priced in a Clinton win and are comfortable with it,” says Jones. But a Trump victory would bring volatility into the markets, “not least because our ability to anticipate what would be the safe-haven asset is a little bit more limited. Normally you would want to go into U.S. Treasury instruments or Treasury-backed instruments, but given what he has said about his attitude toward debt, that becomes a little bit more of a questionable prospect.”
“The market is more comfortable with Clinton; there is a lot more uncertainty associated with Trump election.” –David Kass
If Clinton is elected, Kass expects a “relief rally of a few percentage points” on the Dow Jones and the S&P indices, assuming there are no post-election problems. He thinks the markets are “fully valued and not overvalued – there is still room for growth.”
Focus on Dollar’s Value
According to Gomes and Jones, all eyes should first be on the value of the dollar after the elections. “That is the one number that could dramatically change forecasts into next year,” says Gomes. He expects a downward move in the value of the dollar if Trump were to win, but nowhere near the 20% loss in value the British pound has seen in the aftermath of the Brexit vote in June.
Jones adds that “if Hillary wins and the Fed begins to tighten monetary policy, we have to watch the divide in monetary policy between the Fed and the ECB (European Central Bank).” That is going to play out “as the ECB tries to continue with its large-scale asset purchases, and it may be joined by the Bank of England, which is wrestling right now with whether to respond to the accelerating inflation or to pay more attention to what is happening in the real economy,” he adds.
Near Certainty on Interest Rate Increase
Kass expects the Federal Reserve to start raising interest rates at its December meeting “and perhaps begin an upward movement in that regard, and that would assist the financial sector.” He notes that the financial futures markets are indicating an over 80% probability of a rate increase.
Gomes is not so sure about that increase. A Trump victory would not only depress the stock markets, but also put “a question mark” on the anticipated interest rate increase, he says. “If the stock market wobbles in the next month and a half – the elections could do that – we will not have a rate hike and that’s a very different outlook going into 2017.” The Fed’s decisions would be influenced also by several reports that are expected before its December meeting. They include the unemployment numbers as of October and three readings on the GDP growth in this year’s third quarter.
“The markets have priced in a Clinton win and are comfortable with it.” –Erik Jones
Focus on Health Care
Gomes also notes that “the future of Obamacare (the Affordable Care Act) is very much on the line in this election and that matters very much for the health care industry and health care stocks.” Concerns over health care reform have mounted over the past year with many insurance companies wanting to exit certain markets, reducing choice for consumers and increasing premiums. “The problem needs to be fixed and it is fixable,” says Kass, adding that a Clinton administration and a likely Democratic-controlled Senate could make that happen. However, Clinton’s “aggressive stand” on pricing of drugs following media reports on alleged abuses could hurt pharmaceutical company stocks, he adds.
“Whoever wins will be hard pressed to have some signature achievement quickly that is as bipartisan as possible,” says Gomes. Making peace with a divided Congress will be crucial for the next president to secure a legacy initiative like Barack Obama’s ACA, he adds. “Hillary needs a signature achievement to be re-elected and to be a successful president, and the only way to do that is to deal with the Republicans.”
Those “signature achievement” moves could be “small and restricted to infrastructure and some tax form” but they could also be more ambitious, says Gomes. “Corporate tax reform is the minimum” and could find bipartisan consensus more easily than individual tax reform and elimination of loopholes, he notes.
Article by Knowledge@Wharton