Stocks could sink at first, but for long-term investorsâ€”if history is any guideâ€”it wonâ€™t really matter who wins.
arkets have been bracing for what investors could view as alarming results out of two U.S. Senate runoff elections in Georgia. Democrats already appear to have won one seat, with Democrat Rev. Raphael Warnock defeating incumbent Sen. Kelly Loeffler; if they take both, giving Vice President-elect Kamala Harris a tie-breaking vote and Democrats control of the Senate, it could get uglyâ€”albeit briefly.
Thatâ€™s because most equity investors havenâ€™t seriously considered the impact (on taxes, new regulations and more) of unified Democratic control since just before the November presidential election, which, of course, failed to produce a much hyped and anticipated blue wave. The result is that a surprise Democratic double win could spark a sharp short-term sell-off of as much as 10%, Oppenheimer chief investment strategist John Stoltzfus predicted before election day. And then? Investors will get over their shock and start licking their lips over all that stimulusâ€”including $2,000 a person checks and infrastructure spendingâ€”that Democrats promise to pump into the economy.
S&P 500 Returns Under Various Political Scenarios
Markets have historically preferred Democratic presidents kept in check by a split or Republican Congress. But stocks can also do well when a Democrat in the White House is supported by a unified Senate and House.
Source: CFRA Research, Based on data from 12/31/44 – 12/31/20
â€œIf Democrats win both seats, there will be a short-term negative reaction on Wall Street but it will come back because weâ€™ll see more spending pretty quickly,â€ says famous bull Jeremy Siegel, the Russell E. Palmer Professor of Finance at the Wharton School of the University of Pennsylvania.
Make no mistake: Based solely on historical market performance, the best case scenario for investors appears to be if the GOP retains at least one seat and control of the Senate; if Republican Sen. David Perdue manages to hold onto his seat (right now, Democrat challenger John Ossoff holds a razor-thin lead), it sets the stage for a split Congress under a Democratic White House. Thereâ€™s only been one period since 1944 with a Democrat in the White House and a split Congress and the S&P 500 averaged a hefty 13.6% return each of those yearsâ€”which just happened to be the four years during the middle of President Obamaâ€™s tenure. By comparison, during the 10 years a Republican president held office with a split Congress (including, of course, the last two under President Trump), the market only rose by an average of 7.3%.
Interestingly, the second best performanceâ€”a 13% average gainâ€”has come during the 10 post-1944 years when a Democratic President had to contend with both a House and Senate under Republican control.Â â€œThe market appears to like its (Democratic) government handcuffed,â€ says Doug Witte, a finance professor at Missouri State University.
But it turns out that even if Ossoff, as well as Warnock, pulls off an upset, investors should be okayâ€”going by historical data, the popular belief that unfettered Democrats are terrible for stocks simply isnâ€™t true in the long run. â€œEven if we do end up with a Democratic trifecta, the returns arenâ€™t bad,â€ says Sam Stovall, chief investment strategist for CFRA Research, a New York City-based investment research firm, who has dubbed the prospect of both Ossoff and Warnock winning the â€œblue rippleâ€. The S&P 500 average return in years where Democrats have simultaneously held the oval office and both houses of Congress is roughly 10%. For comparisonâ€™s sake, during the eight years Republicans had sole control of the White House and Congress, the S&P 500 rose by an average of 12.9%.Â
What about 2021? There have been six instances since 1944 when there was a new Democratic president in his first year of office backed by a unified blue Congress, Stovall notes. The average S&P 500 return for those six calendar years was 10.3% he calculates, with the market advancing five times out of six. (Jimmy Carterâ€™s first calendar year was the notable exception, dragging down the average with an 11% loss.)Â What about a new, first-term Democrat President immediately facing a split Congress or even one controlled by the opposite party? That simply hasnâ€™t happened in the post-WWII period, meaning the market would be entering uncharted territory, so to speak.
If the Senate should remain in Republican hands it would obviously (among other limitations) reduce the Biden administrationâ€™s ability to roll back Trump-era corporate tax rate cuts or raise taxes on the rich, as the President-elect proposed during the campaign. Yet even with Democrats in full control of Congress, Biden (and more centrist Democrats) might be disinclined to raise taxes when the economy is still weak. Instead, Democrats might spend freely without raising taxesâ€”at least at first. A straw in the wind: Last week, at the behest of progressives, the House passed a new rules package including â€œpay as you goâ€ exceptions for spending related to either the health or economic effects of the Covid-19 pandemic or to climate change, meaning that any increase in federal government outlays in those areas no longer needs to be offset by tax increases or other budget cuts.Â You can cram a lot of deficit financed spending into those broad areas.Â
More stimulus could come in the form of $2,000 checks to Americansâ€”a promise that Biden echoed on Monday while campaigning for Ossoff and Warnock in Atlantaâ€”but also a large infrastructure spending package, which has potential for bipartisan support. Investment giant Goldman Sachs is predicting another $600 billion in federal stimulus spending alone this year, on top of the recently passed $900 billion package, in the event of a Democratic sweep in Georgia. That might include more aid for state and local governments (which the Republican Senate has steadfastly blocked), enhanced federal unemployment benefits and perhaps even student debt relief, Goldman says.
As for sector performance, if Democrats prevail, renewable energy and industrials could benefit from a new focus on infrastructure in Washington, while pharmaceutical companies and especially Big Tech could likely take a hit from increased government regulation through Congressional legislation.
As consequential as Georgiaâ€™s runoffs may be for national politics and policy, they could be just a small bump in the road for long-term investors. Interest rates, inflation and a return to normal economic activityâ€”whatever that looks like in a post-pandemic worldâ€”will write the markets story of 2021.
This yearâ€™s stock performance â€œis more likely to come from underlying economic pressures and how well we navigate exiting this COVID pandemic,â€ says James Stack, the CEO of Stack Financial Management, a Montana-based wealth advisory. But that wonâ€™t keep market timers and investors prone to overreaction from making short-term moves. Stack figures the Dow Jones Industrial Average could immediately sell off up to 1,000 points in a â€œknee-jerkâ€ reaction if Georgia turns the Senate blue, and gain 1,000 points if Republicans retain Senate control.Â Â
â€œIf I were a trader, I would be sitting on the sidelines right now â€“ with a bag of popcorn,â€ he says.