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Tom Kool

Tom Kool

Writer, Safehaven.com

Tom majored in International Business at Amsterdam’s Higher School of Economics, he is now working as news editor for Oilprice.com and Safehaven.com

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How The Stock Market Predicts Electoral Victory

Elections Stock Market

The markets would love more than anything to be able to predict whether Trump or Biden will win the elections in November, but with more uncertainty than usual, even the market--typically the best soothsayer around--is having a hard time of it. 

The circumstances are novel, and the market is confused. Even Warren Buffett is undecided. 

Biden is leading in the polls--but only just. According to the latest NBC News/Wall Street Journal poll, Biden leads by 8 among registered voters. 

At the same time, Trump’s approval rating hasn’t declined based on the same poll. In fact, Trump’s approval rating in December 2019, according to this poll, was 44. As of September 20, 2020, it was 45. 

Even so, if elections were held today, 51% of those polled said they would vote for Bide/Harris, while 43% said they would vote for Trump/Pence. 

But 11% of those voters are still undecided. That makes Biden’s current 8-point poll lead more than precarious. 

The market’s crystal ball is growing increasingly blurry in the meantime. 

According to LPL financial chief market strategist Ryan Detrick, speaking to MarketWatch, for the past 40 years, a simple chart of the S&P 500’s performance in the three-month run-up to November 3 elections has been 100% accurate. If you go back further, to 1928, it’s been 87% accurate. 

A positive return over this period tends to signal a win for the incumbent. A negative return favors the challenger. 

Yet, this isn’t a typical election year, and Detrick told MarketWatch that “the unique circumstances around this year’s pandemic seem to add plausibility that this could be the first time in almost 100 years that this signal may be wrong--especially if the stock market and economy continue to recover …”.

Goldman Sachs said in a Friday note that while the elections favor a Democratic victory, the race is getting tighter and tighter. 

Goldman is monitoring a basket of stocks with high corporate tax rates. Recently that basket has outperformed, and that signals a preference for those companies that would benefit from a Republican victory. 

The large returns of this high-tax basket category signal a 53% probability of corporate tax reform that would undo Trump’s 2017 tax treats. Biden has proposed a 28% corporate tax rate hike. 

Source: BusinessInsider.com

In other words, the outperformance of this high-tax basket category suggests the race is tightening and the probability of a Democratic victory is slightly declining. Right now, Goldman notes that probability is around 54%.

So where does that leave us?

On August 3rd, the S&P 500 was at 3294.16. A month later, it was 3455.06. As of the time of writing, the S&P 500 is 3251,41. That doesn’t really tell us much, and September is notoriously volatile. 

The big question now is whether voters will blame Trump for an economic downturn, and if they do, history tells us that if there is a stock market decline and a recession at the same time, the incumbent has far less chance of winning. If we’re dealing with just one or the other, the race can tighten exponentially.  

It all comes down to COVID-19, which makes this pandemic the hottest political football the world has seen in a long time. Trump really has to make it clear that the pandemic is the only thing kicking the economy right now and that he is the only president who can handle it. Otherwise, we’re looking at a Democratic sweep.

By Tom Kool for Safehaven.com 

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