We knew they were coming. But only in August, when the Democrat ticket is finalised, can investors begin to second guess the impact of US elections. On Monday, polls showed that challenger Joe Biden’s lead over Donald Trump had widened (RealClearPolitics' 'RCP Average' has Biden at +9 per cent), making his choice of running mate even more pertinent for asset markets.
One thing is certain: Mr Biden will be standing alongside a woman, and it’s likely she’ll have a minority ethnic background - with odds for former ambassador to the United Nations Susan Rice (7:2), California Representative Karen Bass (6:1) and Illinois Rep. and Iraq war veteran Tammy Duckworth (8:1) narrowing the gap on bookies’ favourite, California senator Kamala Harris (evens), at the start of the week.
Given that 77-year-old Mr. Biden would be the oldest president in history, there is much conjecture that his deputy will have an expanded role. Although discussions around whether she’ll be a left-winger don’t necessarily focus on predilections to fiscal largesse – after $3 trillion in federal government stimulus (and a further $1.2 trillion under discussion) to support the economy through Covid-19, that horse has bolted – the approach to tax and regulation will be paramount.
Speaking at the Legg Mason Global asset management forum, Margaret Vitrano, large-cap equity portfolio manager at ClearBridge Investments, highlighted some estimates that reversing President Trump’s cuts to corporation tax could shave 15 per cent off S&P 500 earnings, although such action would require legislative approval in the two congressional houses.
Republicans currently have a majority in the Senate and the Democrats control the House of Representatives, so the balance is finely poised. If Mr Biden is elected president, but the Republicans retain control of the upper house in Congress, then the scope for tax cuts to be reversed is greatly reduced.
Such an outcome would possibly be the most market positive, says Clearbridge investment strategist Jeffrey Schulze: “A Biden win and a Republican Senate could be a bullish short-term event. The outlook would improve for international trade, possibly with China but definitely with Europe, and the risk of higher taxes would be off the table.”
In any case, even if there was a clean sweep for the Democrats, the positive case for Mr Schulze is that “Biden may not pull the lever on tax rises as he’d need to prioritise recovery and economic growth”.
The most compelling reason not to raise taxes, in his view, are estimates that taking corporation tax back up to 28 per cent would only raise $70-$130bn a year for the US Treasury anyway - “a drop in the bucket” compared to the $4trn budget deficit forecast this year - so the benefits are marginal.
Overall, however, Mr Schulze is cautious should the 50:50 chance of a Democrat sweep come to pass. He would not be surprised to see Democrats push for a partial reversal of corporation tax cuts (perhaps taking them back to 25 per cent, if not the full 28 per cent), albeit these would be pushed back a year or so and he would expect the S&P 500 to take a 5-10 per cent haircut.
Perhaps a greater threat of a strong Democrat mandate is in regulation. Although she has dropped back to 16-1 to be running mate, Massachusetts Senator Elizabeth Warren is a long-time advocate of challenging the monopolistic practices of big tech companies.
Big Tech in Washington
This week, the chief executives of Apple (US:AAPL), Amazon (US:AMZN), Google’s parent Alphabet (US:GOOGL) and Facebook (US:FB.) are standing in front of Congress being questioned on their competitive practices. The prospect of antitrust legislation casts a shadow over their future.
Investors will be all too aware that a high proportion of profits growth for the S&P 500 has been concentrated in the tech behemoths and, with Q2 2020 results being reported by Facebook, Alphabet and Amazon this week, there should be another reminder of their importance.
Pharma and healthcare
Pharmaceutical and healthcare companies have also been subject to political risk. Ever since Hillary Clinton’s drug price tweets in 2016, they have been “walking around with a target on their back” says Ms Vitrano. There is a recognition, however, that the Covid-19 crisis has shown the value of a strong research and manufacturing base in the country and possibly these companies could find the Democrats a more benign prospect than had they won four years ago.
When Joe Biden won the Democrat nomination from Bernie Sanders, MediCare4All – a state backed health funding scheme with no need for private insurance – was taken off the table as a policy option. Mr Biden prefers gradual evolution of the old Obamacare, so the risk to the industry has subsided significantly.
MediCare4All was of greatest threat to insurance-funded hospital and care-home models, and in 2017 drugs were only around 14 per cent of the US healthcare market. That said, the industry will still benefit from drug pricing slipping down the political agenda as policymakers focus on dealing with Covid-19.
If anything, the pandemic is a chance for drug manufacturers to improve their public relations and Geoffrey Hsu, manager of The Biotechnology Growth Trust (BIOG), said in his fund’s annual presentation that companies he’d spoken with intended to generously price products that could help fight Covid-19.
President Trump’s answer to drug price inflation was to remove red tape in the approval process and this decision has helped to bring products to market quickly and keep the lid on prices. Unforgettably, Mr Trump’s assertions about the science behind bleach as a cure for coronavirus earned strong ridicule - but his policies have helped to expedite what was already a strong pipeline of drugs.
Overall, Mr Hsu rates a Biden presidency with a split Congress as the most positive outcome for biotechnology and pharmaceutical companies. Since Bernie Sanders threw in the towel, arguably the industry’s worst-case scenario of a Democratic clean sweep of presidency and both houses of congress should no longer be viewed so negatively.
What this view doesn’t allow for is a left-wing Vice President, however. No doubt Republican strategists will focus on Mr Biden’s age and who might provide the real energy and drive should the Democrats win. Medicare4All is supported by Kamala Harris, Karen Bass and Elizabeth Warren, so future impetus to the policy can’t be ruled out.
Led by a man who will be turning eighty by the mid-terms, it isn’t unreasonable to expect that a Vice President would call significant shots. It’s not inconceivable he could die of natural causes in office. Certainly, we could expect that his vice would be groomed to run after one term and that is where candidates from the Sanders wing of the Democrat party could pose the threat of greater regulation to some industries, if they also enjoyed control of Congress.
Battle over health and economic narratives to dominate election run-in
More immediately, the confusing aspect for investors will be cutting through the noise as mudslinging commences in what will be a brutally fought campaign. While this week’s congressional hearings into big tech are primarily about competition, it won’t be lost on Facebook’s Mark Zuckerberg how damaging any repeat of the Cambridge Analytica scandal – the small research firm that in 2018 was found to have breached Facebook user security to harvest data for political advertisers - would be to his company.
Reporting in traditional media is partisan too, which could have the consequence of making people less bold about going out and partaking in normal activities - in turn weighing on economic recovery. Initial positive data after states exited lockdown has been dampened; notably the US weekly unemployment claims have once again risen above 1.4m and 32m people were collecting jobless benefits at the start of July.
As for the virus, cases and deaths are rising but the death rate per confirmed case is dramatically lower in California, Texas and Florida than it was in New York. The loss of life is still tragic but as better treatment methods are being practiced and older people are practising social distancing more effectively, the burden on health services is more manageable.
That’s not to be flippant about a 7-day rolling average death rate that nationally has almost doubled in three weeks and now runs at over 900 per day, but the fear of being overwhelmed has been replaced with an impassioned debate over the trade-off between safety and the need to get the economy up and running again.
The situation is not the same as in March, says John Bellows, fixed income portfolio manager at Western Asset, when the fear was not knowing whether the virus could be contained or managed. Along with that uncertainty factor he puts the velocity of markets selling off earlier in the year down to the US Treasury market breaking down, but gives the Federal Reserve credit for stepping in and safeguarding the financial system.
The V-shaped economic recovery that started in April has been stopped in its tracks and Mr Bellows sees a far more gradual recovery and higher unemployment as the US loses 5-6 per cent of economic activity. That won’t come back overnight as the virus has made people more cautious.
In the meantime, however, the federal reserve is continuing to pump money into bond markets, and Mr Bellows does see an opportunity in investment grade credit. Spreads are still wider than a year ago and the fed is prepared to provide whatever bridging funding lines corporates need to get through the crisis, so a great-risk reward in quality corporate bonds is materialising.
Should spreads widen meaningfully, the Fed could double or triple its buying programme, as it is committed to taking the volatility out of credit markets. Given there is still material upside, investment grade corporate credit is a “very interesting asset class”, in Mr Bellows’ view.
This week the Federal Reserve open market committee is meeting to discuss next steps. Chair Jay Powell’s signal that they aren’t even thinking about raising rates was described by Mr Schulze as making his predecessors Ben Bernanke and Janet Yellen, who were famous exponents of monetary easing after the financial crisis, look like the infamously hawkish Paul Volcker.
Most likely, the Fed will continue to signal how dovish it is while hinting at future measures such as yield curve control – committing to buy up bonds of certain maturities to keep forward rates at target level, helping manage on the run and off the run liquidity.
Unfortunately, but all too predictably, the politicians aren’t as committed as the Fed to pouring oil on troubled water and wrangling over the latest $1.2 trillion fiscal boost has weighed on the value of the US dollar. The hold-up has been due, in part, to concerns among Republicans that some schemes require better monitoring.
It is also unhelpful, albeit inevitable, that the debate around how to re-open the economy is so politicised and toxic. This is partly driven by the genuine need to balance saving lives with livelihoods, but it is a shame that sensible dialogue on this tragic real-world trade off takes a back seat to ideology for several leading actors in this election race.
