Perspective

US election: Get ready for rotation or disruption


The outcome of next week’s US presidential election is uncertain and we are seeing a concerning rise in European Covid-19 cases. So, it’s no wonder some investors are nervous. However, I see a number of reasons for calm, and even optimism.

Positive signal from the "old economy"

Although technology companies have dominated the headlines this year for their standout performance during the pandemic, it’s a company very much from the “old economy” that has piqued my interest most recently.

Danish container shipping giant Maersk, founded in the 1920s, is often seen as a bellwether for global trade. It reported very encouraging earnings for the third quarter and said it expected the fourth quarter to be its best in four years.

An old economy shipping business indicating a 20% increase in its full-year estimates, with three-quarters of the year already gone, suggests to me that this earnings season might be alright.

Indeed, we’re seeing fewer companies downplaying their results, suggesting they are happy with expectations. The earnings season generally should be at least steady, and in some areas encouraging. That is unless you’re in leisure, entertainment and airlines, where there will be little cheer.

In fact, I’m encouraged when looking at a wide range of global financial and data points, whether it’s money supply, car sales, Purchasing Managers’ Index (PMI) figures for manufacturing or the US yield curve. There are of course a few exceptions, mainly the service sector PMIs which continue to disappoint, but generally there are many reasons to believe we will see continued growth.

Markets on the whole are resilient, expecting positive news from some of the nine major vaccines currently in phase three trials in the coming weeks. Yes, Covid-19 cases are rising, but so far mortality rates fortunately appear to be rising in a less marked manner; wide scale national full lockdowns don’t appear to be on the agenda but rather regional and late evening curfews instead.

At the same time, central banks remain extremely accommodative, with the US Federal Reserve expected to keep rates on hold for some time and to allow inflation to go above its average target.

But what about the US election?

The market seems to accept that if we see a Democratic sweep (winning Congress and the Executive Office), Joe Biden will take away with one hand, but give with the other.

So, on one hand his tax changes may adversely affect some companies. Mainly those that have been arguably overearning, partly as a result of abnormally low corporate tax rates and overseas income coming in effectively untaxed.

But on the other hand, Biden brings the possibility of some middle and lower income tax breaks and minimum wages, as well as substantial fiscal stimulus, which would have a positive multiplier effect on the economy. This would be particularly beneficial if – as is likely the case - it is infrastructure and green-led, long-term growth packages. Not just debt growth to fund short-term handouts.

The return of value?

Such a package would be beneficial to some unloved sectors, and so this “blue wave” scenario could result in a meaningful rotation in the market. I think there is huge potential for a move away from the momentum trades that have done so well – most notably tech – towards “value” and “cyclical” infrastructure related stocks and areas most sensitive to the economic cycle.

Although this scenario may prompt a shift away from tech, I would see this purely as a shift in sentiment, rather than anything more fundamental. The business models that tech delivers are not going away. The cash flow dynamics of these companies are extremely powerful.

What might change is what is enjoyed by the tax man rather than just the shareholder. The disruption that tech represents and the pattern of consumer behaviour won’t change. Nor will the revenue momentum of those businesses.

Assuming that the Covid-19 infection rate doesn’t become more alarming, such a market rotation in the US could also affect the perception of value and cyclical sectors in Europe. These areas have a high weighting in Europe so could lead to it taking over the reins of market leadership from the US for a period.

Don't write off the Republicans

However, a blue sweep is far from a foregone conclusion and other scenarios could result in very different outcomes.

You could argue that a Biden presidency with a Republican Senate would be a very positive outcome for investors, particularly if you continue to own tech stocks and classic components of the momentum trade. This is because under such a scenario there is a lower probability of anti-trust or regulatory change, but you still have the benefits of the fiscal stimulus.

Let’s also not ignore the fact that Donald Trump still has a fighting chance of retaining the presidency. Indeed, the Trafalgar Group - which was a lone voice among pollsters in predicting a Trump victory in the last election – is still predicting that he will win again. It says that lessons have not been learned from the last election and the polls are once again ignoring the effect of “shy” Trump voters.

If Trump gets four more years I would expect “more of the same” from markets. Tech would likely continue to outperform the broader market and the US stock market would continue to outperform the rest of the world.

The scenario that is most likely to concern markets would be a contested outcome. Markets hate nothing more than uncertainty and especially doubts over who is the elected leader of the largest economy in the world. Markets could well sell off in this environment and there is likely to be a marked rotation to defensive like sectors such as utilities, consumer staples, and healthcare.

Encouraging picture for markets in 2021

Despite the uncertainty surrounding the US election and Covid-19, I think there is still an encouraging picture for markets as one looks out into 2021.

Money supply is growing, central banks are proactively assisting markets, China is trending stronger, a vaccine is a possibility, health systems appear to be coping better with this second wave than the initial crisis and fiscal stimulus is set to be deployed in 2021, assisting GDP and corporate earnings.

Like a Maersk container ship, the US needs a captain. Once we have clarity on that it is likely that markets can continue to charter a steady course through potentially choppy seas, even if that captain presents new leadership at the helm.

This article is issued by Cazenove Capital which is part of the Schroder Group and a trading name of Schroder & Co. Limited, 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Nothing in this document should be deemed to constitute the provision of financial, investment or other professional advice in any way. Past performance is not a guide to future performance. The value of an investment and the income from it may go down as well as up and investors may not get back the amount originally invested. This document may include forward-looking statements that are based upon our current opinions, expectations and projections. We undertake no obligation to update or revise any forward-looking statements. Actual results could differ materially from those anticipated in the forward-looking statements. All data contained within this document is sourced from Cazenove Capital unless otherwise stated.

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