V is for Vote, Virus and Volatility
The first week of November will be presented by the letter “V”… V is for VOTE, VIRUS and VOLATILITY, the themes that will dominate financial markets in the days, and potentially weeks, ahead.
As the nation nervously awaits results from the election, let me make a suggestion about your investments: DO NOTHING.
With that out of the way, there has been a shifting narrative over the past few months to explain market moves. Initially, it was believed that a Biden win would amount to a death knell to post-pandemic stock gains. The rationale was that a Biden administration would seek to roll back a portion of the 2017 Trump tax cuts, specifically for households that make more than $400,000 ($200,000 for individuals) and corporations (according to Biden’s website, the corporate tax rate would rise from the current level of 21 percent to 28 percent. Before 2017, the rate was 35 percent.)
But the landscape shifted after Congress was unable to agree on another round of stimulus. Jonas Goltermann of Capital Economics reckons that as Biden’s polling improved, investors became convinced that a Biden administration, combined with Democratic majorities in both houses, would deliver a large stimulus plan, which would propel the economy forward in 2021. But that may be overoptimistic, according to Goltermann, who believes “stricter environmental regulation, healthcare reform, and bolder anti-trust measures,” which also make up the Democratic policy platform, might mean that U.S. stock market gains “might not last long.”
He also underscores that “the worst outcome for investors would be if either side contested the outcome of the election. That would reduce the near-term prospects for a fiscal deal (aka stimulus) and increase uncertainty more generally. It could easily trigger a deeper setback for risky assets (like stocks) and a rally in safe havens,” like U.S. government bonds and the U.S. dollar. The election of 2000 is a good example: The S&P 500 fell by around 5 percent in the week following the election, though recouped those losses after the Supreme Court settled the matter in mid-December.
Meanwhile, concerns that the big increase in COVID-19 cases could slow down the economy, is also weighing on markets. As Charles Michel, the European Council president warned, “Within the space of just a few weeks, the situation has escalated from worrying to alarming.”
Perhaps that’s why the record setting U.S. GDP for the third quarter (+7.4 percent from the previous quarter, or a 33.1 percent annualized pace) was quickly parsed as follows: We’re happy to see the bounce, it means that the U.S. has recouped about two-thirds of the pandemic-related contraction. BUT, that still leaves the economy about 3.5 percent smaller than it was at the end of 2019 (GDP peaked in Q4 at an annualized rate of $19.25 trillion (measured in 2012 dollars) and stood at $18.58 trillion in Q3).
Also, a deeper dive into the data show that while Americans are spending a bunch of money on goods, the service sector remains sluggish and is 7.2 percent below where it was a year ago.
The concern has sparked movement in the markets. Last week, the VIX, a measure of market volatility, increased to over 40, the highest level since June. To put the number in perspective, the all-time high of the VIX was 82 in March, and before that, it was over 70 in the autumn of 2008, amid the financial crisis.
As the week unfolds, investors are likely to see more big swings. The challenge will be to refrain from reading too much into any day’s, week’s, or even month’s movements.
BUT, WAIT, THERE’S MORE GOING ON NEXT WEEK
On Thursday, the Federal Reserve will convene a policy meeting, where there is no expectation of new actions. Analysts will pay attention to the accompanying statement, which could reiterate the central bank’s call/plea for additional government stimulus. Fed Governor Lael Brainard recently said: “Apart from the course of the virus itself, the most significant downside risk to my outlook would be the failure of additional fiscal support to materialize.”
On Friday, it’s time for a monthly employment report! The spike in coronavirus cases will not likely be reflected in the October data. As a result, the consensus is for non-farm payrolls to increase by 650,000, though the unemployment rate may not go down by too much, as the labor force continues to shrink. As of September, there were 101 million Americans who were not working, but were not counted as unemployed. As a result, the unemployment rate is expected to tick down to 7.7 percent from September’s 7.9 percent.
MARKETS: The three major indexes had their worst week since the week ending March 20th. All three ended the month lower, though there is wide divergence: The Dow is down 7 percent on the year; the S&P 500 is up 1 percent for the year; while the tech-heavy NASDAQ Composite remains ahead by 21 percent.