Although it looks like a two-horse race, there are three possible outcomes to consider from the US election – a result sufficiently close that neither side initially concedes defeat.
While relatively unlikely, this would be the most disruptive outcome for markets.
This was, of course, the scenario that played out in 2000 between Democrat Al Gore and Republican George W Bush. The weeks of uncertainty saw the US equity market fall by just over 8 per cent between election day to the end of November, while the tech-heavy Nasdaq Index fell by 24 per cent over the same period.
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There are similarities with today’s market conditions. In 2000, as today, US stocks were highly valued. Technology stocks were riding high as they are today, although in 2000 they were just starting to fall after a bubble in the late 90s. However, there’s one big difference between then and now: the ultra-low interest rate environment. In the 2000s, US (and UK) interest rates were over 5 per cent. This made shares less attractive than interest-based assets, such as bonds, and investing was relatively more costly.
Essentially the interest rate is the discount rate used to value longer term cash flows and current ultra-low interest rates across almost all developed markets are why we think that equity valuations are likely to remain high.
So, we would expect some short-term turbulence in the markets in the case of a contested result but given the economic environment, we believe that the real drivers of stock markets will reassert themselves as the crisis passes.
A clear Biden win with Democrats also prevailing in Congress
This is looking like the most likely scenario based on opinion polling and election odds.
Perhaps the biggest concern for investors from a Biden win is his plan to raise corporation tax by 7 per cent. Any rise won’t be welcomed by business, but companies would still pay 7 per cent less than four years ago when President Trump cut the rate from 35 per cent to 21 per cent.
Additionally, there’s plenty of historical precedent for markets coming to terms with higher taxes – taxes were raised by Presidents Truman, George W Bush, Clinton and Obama. The impact is typically short-term and markets have generally trended back in line with prevailing corporate fundamentals.
After President Clinton raised taxes across the board in 1993, for example, markets initially struggled, although higher US interest rates were also an issue. However, the stock market went on to rise by over 70 per cent in both Clinton eras, much more than even during the Reagan boom.
A surprise Trump win
President Trump would no doubt see a second term as vindication
of his policies and a mandate to keep it up. This is likely to see him “double down” on his recent key strategies – lower taxes, deregulation and US self-reliance. This would probably be good for the US economy, corporate profits and therefore the equity markets.
Both candidates are likely to maintain pressure on China, although Biden is likely to take a more collaborative approach with America’s traditional allies. This could lead to a more settled geopolitical backdrop.
Alan Higgins is chief investment officer at Coutts