The Investment Conversation: Will the Midterms Lead to More Volatility?
PODCAST - 2018 Midterm Elections
The Investment Conversation: Will the Midterms Lead to More Volatility?
In this podcast, portfolio manager Kewjin Yuoh talks about the investment implications of various possible outcomes of the U.S. midterm elections.
VO: Welcome to The Investment Conversation, Lord Abbett's ongoing podcast series.
VO: Hello, this is Will Andrews, Digital Content Editor for Lord Abbett. Right now, investors are focused on the U.S. midterm elections. Kewjin Yuoh, portfolio manager for taxable fixed income, talks about the election and its implications for the market.
Yuoh: This year's midterms - perhaps more than years past - are grabbing more headlines. But you know, elections have traditionally had short-lived to marginal impact on the markets. But how are we thinking about this year? I would say it's interesting to at least look briefly at the numbers.
The Democrats need to win 23 seats to take control of the House. And the experts are currently are saying that there are approximately 70 seats in play. And these experts and additional statistical experts suggest a 70% probability that the Democrats will indeed win the House.
In the Senate, Democrats need to take an additional two seats for the majority. But in the elections, and this is very interesting, Democrats are defending 26 seats, while the Republicans are only defending nine. So as of a week ago [early September] the likelihood that the Democrats would actually take over the Senate was very low. But if there's anything, this administration is all about volatility and recent events, and declining approval ratings for the president has certainly increased this probability.
So enough of the numbers. Let's marry the potential election outcomes with those market factors, which have been important over the last two years since the administration has come in place. As mentioned, the outcome with the highest likelihood is that of a Democratic House and Republican Senate. So what are the factors that we should consider? Tax cuts have certainly been a supportive fiscal policy. And that potential outcome would decrease the likelihood that a second wave of tax cuts would be coming.
But I don't think that that's a scenario that's necessarily been priced into the markets. What we would be thinking about is that all of the supportive fiscal policy that we've seen could certainly slow down in that type of outcome.
Trade policy, tariffs, potential trade wars have all been significant to spread valuations and market action. But this is largely an executive branch decision. And nothing significant would be expected to change in this regard. Or at least Democratic opposition would happen on the margins. Some of the impacts of rhetoric and everything else would certainly continue as it came out from the administration.
Now, taking this global aspect a step further, emerging markets weakness has been notably impacted by global growth concerns and China weakness. And again, with that split Congress outcome, we wouldn't expect too much to change here either.
And the last point we would consider is that U.S. growth has been robust. Consumer confidence has been high. And interestingly enough, that strong consumer confidence/sentiment has been led by a large increase in confidence from Republican voters. We expect U.S. fundamentals to remain robust.
The outcome with the second highest probability would be the Republicans maintaining majority in both sides of Congress. And really, in that scenario, you should expect more of the same.
And what we've had is continuing growth. And for the fixed income markets, I think what you should expect is [that] interest rates, the shape of the yield curve, and spread valuations, those items will all depend on things that we've talked about before in terms of Fed [U.S. Federal Reserve] policy - consumer confidence, the domestic economy, the return of term premium - a discussion that we had in the last outlook.
So, one last thing to mention. The one outcome with any potential of notably impacting markets would be one where the Democrats actually sweep and take both sides of Congress. What would happen there is that the markets will price in some uncertainty through expectations of higher volatility, given that that was an outcome that was not expected.
And with higher volatility, potentially we would have an opportunity to invest in risk assets. Because when you go back to the fundamentals, as mentioned, trade policy is largely Trump controlled. Consumer confidence will remain high. The labor and growth picture remain robust. And fundamentals continue to suggest the risk-taking environment.
So in summary, historically, when you look at event risk and, specifically, political event risk, they generally can provide short-lived or short-term opportunities in the marketplace. But as far as its impact on long-term fundamentals, that is a much slower-moving phenomena. And so in the current environment, with fundamentals being as strong as they are, we expect the mid-term elections to potentially provide some volatility and some risk-taking opportunities in the short-term. But our outlook for U.S. growth and the domestic economy continue to support our position to take risk.
VO: That's it for this edition of The Investment Conversation. As always, you can access a full range of investment commentary and analysis at lordabbett.com. Thanks for listening.
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