Markets & Economy

Markets hate uncertainty, and there have been few years with more uncertainty than 2020. As soon as we thought we had our arms around the pandemic or the election, this year surprised us again.

The pandemic will not end because we have good preliminary vaccine results, but it does give investors more clarity on when the economy may return to normal. The production and distribution of hundreds of millions of vaccines across the US remains a major challenge that may take us deep into next year. But at least there is now light at the end of the tunnel, with the release of hopeful news earlier this week.

Likewise, with US election outcomes becoming more certain—a likely Biden Presidency + Republican Senate + Democrat House—investors can start looking ahead with greater clarity toward the future. Even if it remains unclear on which topics, if any, Republicans and Democrats can find compromise.

In our view, it is not surprising to see markets react so favorably to greater pandemic and political certainty. As the dust starts to settle, there are a number of key issues on our mind today.

1. A Return to Tighter Budgets

   The COVID pandemic is continuing to challenge the economy, and up until last week, expectations were high for another massive bout of stimulus to keep the economy afloat.

   A combination of divided election results, as well as very positive news on a COVID vaccine, may increase the likelihood the stimulus bill comes in either smaller or later than expected. If the bill is smaller, it could drag out and slow the recovery process.

   Rising fiscal deficits and debt levels are the key political constraints on more COVID stimulus, as well as on the potential for greater spending in general. We believe one of the key longer-term takeaways from last week’s elections is that a divided government is likely to result in more modest spending and a greater focus on fiscal restraint.

   The much-needed infrastructure bill, which both sides allegedly agree on, and other long-term spending initiatives may be reduced, delayed, or sidelined entirely. The net effect may be economic growth that returns to or falls short of its sluggish pre-pandemic pace.

2. Stasis in Tax Policy

   The Biden tax plan received a massive amount of publicity in the months leading up to the election as the merits of its proposed tax increases were fiercely debated.

   Should the Republican party finish securing control of the US Senate this January, then we believe those concerns can largely be put to rest. Significant changes to tax policy are always difficult to pass, even in times of united, one-party control.

   Given current projections for a divided federal government, we believe the odds of tax reform have become even less likely. In our view, it is difficult to see how the varied political interests in Washington DC would be able to come together on a topic this controversial.

3. COVID Vaccine Optimism

   On Monday morning, trial results were released by a key vaccine candidate. The results were excellent and showed much higher than expected vaccine efficacy. The pandemic has been taxing on all of us in so many ways, and the quicker we can find, produce, and disseminate a cure, the better.

   From a market standpoint, the vaccine news has particularly great economic implications. Yes, there remain substantial distribution challenges, and yes, many people may still opt not to take it. But an efficacy rate of 90% or higher dramatically increases the odds that a sufficiently high enough percentage of the population will get vaccinated, allowing us all to achieve herd immunity.

   Herd immunity is the critical final step toward normalization and allowing the economy to fully reopen. And the quicker the economy reopens, the quicker we can turn the economy around, benefitting investors and financial markets.

4. Calmer International Relations

   We believe the Biden Administration will pursue a more traditional, diplomatic approach to international relations. Whether it will be effective is unknown, but a less confrontational approach is likely to contribute to a more positive environment for global trade and financial markets.

   For example, US-China relations are likely to remain strained, and it is very unlikely the US will allow China to resume unfair trade practices. Under a more traditional approach, however, we believe relations have the potential to marginally improve, benefitting businesses and industries that have been caught in the crossfire.

   A similar case can be made for Europe as well, and we envision a much closer relationship with Europe than in the past. Under a Biden presidency, we expect renewed efforts to unify the two regions in their efforts to address issues including climate change, Iran, and Chinese relations.

The long-term consequences of greater election and vaccine clarity are still coming to light. Regardless of how the final outcomes unfold, markets appreciate certainty, and the past week has given us more certainty than we have seen in a long time.

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