US Election: Make-up of Congress deserves attention - Westpac

Richard Franulovich, Research Analyst at Westpac, suggests that while all the focus has been on the US presidential race the make-up of Congress deserves just as much attention by markets.

Key Quotes

“The probability of a Clinton presidency has risen sharply in recent weeks according to betting markets and polling. USD/MXN, long considered the best hedge against a Trump presidency given his anti-immigration and trade protectionist stance has fallen too. The Clinton-Trump spread according to Real Clear Politics’ poll of polls is +6.2pts in Clinton’s favour, while noted pollster/statistician Nate Silver gives Clinton an 87% chance of winning (averaging his 3 models).

While all the focus has been on the US presidential race the make up of Congress deserves just as much attention by markets  - policy outcomes are of course heavily shaped by not just the President but Congress too. The presidential race is beginning to have a material impact on “down-ballot” races too, putting additional focus on the shape of Congress. One potential outcome that is getting some traction is the possibility that the Senate and the House – currently both controlled by the Republicans – could flip to the Democrats.

Polling and betting markets have long given decent odds for the Senate to return to Democrat control but lately as the probability of a Trump presidency has tumbled the once unthinkable prospect of a clean sweep by the Democrats - the Oval Office, the Senate and the House of Representatives - is considered very possible.

A Clinton presidency likely prompts a relief rally for global markets but it is mostly discounted and the final shape of congress could be a significant countervailing factor.

A Clinton presidency combined with a Democrat majority in both chambers might not be good news for risk appetite, at least initially. Such an outcome will likely still produce a kneejerk relief rally but it will be truncated and short-lived. A Democrat majority in both chambers in theory gives them a freer hand to pursue a more aggressive regulatory push against banking/finance and the energy sector as well as higher taxes on high income earners.

A divided US government is often considered a “good thing” for markets. Gridlock ensures that policy shifts are incremental and limits overreach and thus the risk of potentially damaging policies for the economy and markets.

A Clinton presidency combined with continued Republican control of Congress – still the most likely outcome – appears to be very risk friendly but it's not that simple. Under the most likely scenario of a reduced House Republican majority, Leader Paul Ryan would more than ever be forced to rely on Democrats to pass legislation. Ryan will be leading a highly fractured Republican party, divided between pro-Trump and anti-Trump forces. Ryan’s predecessor Boehner faced similar challenges (Tea party vs moderates) and the House proved almost ungovernable.

Overall a clean sweep for the Democrats likely still produces a small relief rally but it is likely truncated by concerns that it may not be business friendly. Much depends on the size of the majority and longer term it may if anything be a net plus for risk assets to the extent it becomes easier for Clinton to enact fiscal stimulus/infrastructure spending.”