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MarketScape · 11.06.24

What the Republican Wins Could Mean for Investors

We examine how Republican wins may signal shifts in fiscal and regulatory policies, potentially impacting key areas for investors.

  • Portfolio Construction
  • Equity Insights
  • Fixed Income Insights
  • Elections

Key Points

What it is

With the recent Republican victories, changes in economic and policy priorities may emerge, potentially affecting the investment landscape.

Why it matters

Evolving policy directions may present new opportunities and risks for investors, underscoring the need to monitor these developments closely.

Where it's going

As Republican-led policies unfold, certain industries may experience growth or regulation shifts, affecting investor focus areas in the coming months.

The Republicans’ win of the U.S. presidency and the Senate has provided clarity for investors following months of uncertainty that has caused market volatility. The House has yet to be called, although media reports indicate it is leaning in the Republicans’ favor. With more clarity on the make-up of government, investors now can focus on the what the Donald Trump administration may mean for markets and the economy. Let’s take a closer look.

 

President Elect Trump’s campaign revolved around extending his which are set to expire at the end of 2025, a tougher stance on immigration, increasing tariffs, and deregulation. While some of these policies are stimulative, others will increase inflationary pressures on labor and goods. Importantly, with the nation’s debt-to-GDP ratio already stretched at 120%, Trump’s policies may further increase the U.S. government’s debt load to more than 170% of GDP, based on estimates by the Committee for a Responsible Federal Budget. How might these policies impact markets?

 

As it became increasingly clear overnight that Republicans were going to have a successful evening, markets reacted in kind. While both large and small cap stocks shot higher, there were clear winners to start the day. More domestically oriented small cap stocks were up 6% pre-market, benefiting from certain Trump policies, while large caps were up more than 2%. Banks and Energy stocks were notable winners as expected beneficiaries from deregulatory Trump policies. Further, equity market volatility cratered, with the CBOE Implied Volatility Index, or VIX, dropping over 4 points as investors welcomed closure on an election cycle that has been highly contentious.

 

For bond markets, the focus was more on the fiscal side. Long rates shot higher, with the 30 year U.S. Treasury up around 20 bps this morning, consistent with a view of higher term premiums given expectations around increased deficits and debt. Break-even inflation expectations also moved somewhat higher, aligned with a view towards increasing labor costs and debt expansion.

 

Equity investors need to consider the balance of headwinds and tailwinds from expected policies, and how companies are likely to adapt. Higher interest rates could weigh on the valuation of longer duration growth equities, as we have observed historically. Further, inflationary pressures from increased labor and input costs may be an additional headwind to profit margins. However, the maintenance and potential decrease of taxes and deregulation may boost corporate investment and consumer spending, which would be a tailwind to equity returns.

 

For bond investors, the entire yield curve is in flux. The Federal Reserve embarked on an interest rate cutting regime in mid-September, taking the short-term Fed Funds rate down 50 bps with expectations for additional cuts. Meanwhile, longer term rates have moved meaningfully higher since that time. Taken together, this bear-steepening reflects both Fed action and investor views towards government debt on the long run and the term premium investors expect. Debt levels will once again come into focus as the U.S. will reach the debt ceiling in the coming months. How this gets discussed and negotiated will be an early indication of whether spending restraint will be shown.

 

Another important consideration is how much stock-bond diversification may change. Historically, stock and bond correlations have been low or negative, which has been a good source of diversification for investors. However, there have been points in time, notably 2022, where this correlation can turn positive. In that case, it was the combination of increasing inflation and rising interest rates that acted as a headwind to both stock and bond market returns. Given inflationary risk potential, stock-bond correlations are an area that should be top of mind for investors.

 

Perhaps the biggest boon for investors overnight is an increase in policy clarity. Noting the House is still undecided, scenarios for divided government were likely to set up contentious debates surrounding the extension of the 2017 Trump tax cuts, the debt ceiling, regulations, and more. There are still a number of unknowns surrounding how Trump’s policies will be implemented specifically, but the scope narrowed significantly with the election results.

 

So far, the initial market reaction has been fairly in line with the prior interpretation of Trump’s policy impacts on asset class and sector returns. We hesitate to put too much emphasis on a single day, and instead recommend a careful evaluation of how policy may impact real and nominal economic variables, interest rates, and fundamentals. While the initial market reaction may provide some clues, we recommend a longer run view on asset class returns and correlations.

Main Point

How Republican Victories May Impact Investment Choices

Republican gains may bring about changes in economic and policy priorities. While the full impact remains to be seen, potential changes could influence sectors that rely on stability and fiscal support. Staying alert to these developments can help investors navigate the new landscape.

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Michael Hunstad, Ph.D.

Deputy Chief Investment Officer & Chief Investment Officer of Global Equities

Michael Hunstad is deputy chief investment officer and chief investment officer of global equities for Northern Trust Asset Management. Michael is a member of the Asset Management Executive Group and has oversight of all equity portfolio management, research and trading activities including quantitative, index and tax-advantaged strategies. Additionally, he assists with the development of investment vision, strategy portfolio construction and risk management framework for the firm’s broad investment platform.

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