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Magic 8 Ball Knows All

November 5, 2012

Risk assets tend to rise in the aftermath of a close presidential election regardless of the victor due to the perceived reduction in uncertainty.
-Christine Hurtsellers, chief investment officer, fixed income and proprietary investments, ING

Barring any hanging chads, the race to 270 electoral votes is a coin flip at this point. But with the fate of economic growth, fiscal stability and monetary policy hinging on a bevy of discrete and potentially disparate political decisions the victor will make upon entering the Oval Office, itís hard not to wonder if any attempt to predict the marketsí reaction is any more useful than shaking a Magic 8 Ball.

††††††† Risk assets tend to rise in the aftermath of a close presidential election regardless of the victor due to the perceived reduction in uncertainty. While we would expect the marketís reaction to be no different after this latest jaunt in American democracy, the medium-term trajectory for risk assets could go either way, with the resolution of the fiscal cliff being a primary driver. Given the contentiousness that pervaded the political climate as we bumped up against the debt ceiling last summer, the perception is that an Obama win would likely result in another round of brinkmanship with an acrimonious Republican House.
††††††† There is no consistent response for the dollar in the aftermath of a close presidential election, as the dollar tends to be driven more by non-political factors like the business cycle and monetary policy. On one hand, given the potential for a negative outcome to the fiscal cliff under Obama coupled with less favorable tax policies for corporations, the dollar will likely follow interest rates, going lower with Obama and higher with Romney. On the other hand, given the potential for Romneyís anti-China/protectionist policies, the dollar could become more politically charged as a weapon in a currency war to make U.S. exports more competitive.
††††††† Forecasting the reaction of Treasuries is more cut and dry, however. An Obama win is perceived to be clearly positive for Treasuries based on the expectation of continued accommodative monetary policy and a shakier outlook for fiscal stability. On the other hand, a Romney win is perceived to be an outright negative for Treasuries given the expected interest rate volatility that could ensue with Bernankeís role as Fed chairman less certain coupled with a more positive outlook for fiscal stability. As such, we would place the highest degree of certainty on trading a flatter yield curve under either presidential scenario.