US voters will choose the next president and members of Congress on 3 November. How will the outcome of the US elections affect fixed income markets? NN Investment Partners (NN IP) believes that a Joe Biden victory and the likely surge in additional fiscal stimulus would have a bigger impact than a Donald Trump win.
“The larger fiscal pulse likely under a Biden presidency is more important for markets than concerns about regulations and tax hikes,” said Marco Willner, Head of Investment Strategy at NN Investment Partners.
The key factors in our outlook for the US dollar versus the euro and for EM currencies are monetary policy, trade policy and fiscal policy. On the monetary policy front, the US Federal Reserve will keep rates close to 0% and continue to purchase bonds. This accommodative stance and ample dollar liquidity are supportive for emerging market currencies. The EUR/USD outlook depends more on monetary policy differences. The Fed will probably move inflation expectations closer to target than the ECB, which implies relatively low US real rates that could support the euro versus the dollar.
The difference between the two candidates on trade policy is mainly in form and tactics. Both want to protect US industries and maintain global leadership in Information Technology (IT). If Trump wins the election, a further escalation in the trade conflict with China is a possibility that could result in a stronger dollar, both versus the euro and versus EM currencies.
The larger fiscal pulse likely under a Biden presidency is more important for markets than concerns about regulations and tax hikes. Such stimulus would probably benefit EM currencies, as more infrastructure spending could boost demand for commodities. A larger US fiscal pulse should boost real rates, which is traditionally seen as currency positive relative to the euro. This could offset the downward pressure on real rates from easier monetary policy. For the euro, developments such as the EU recovery fund, Covid-19 and Brexit could be more important drivers.
The potential fiscal policy response will be key. A Biden presidency would be more positive for EM currencies than a Trump presidency. According to our estimates, both candidates’ plans will lead to significant T-bill supply that will carry the bulk of the additional borrowing requirements. Higher bond supply and improving macroeconomic conditions under a Biden presidency should put upward pressure on US Treasury yields over the course of next year.
Implications for US corporate credit fundamentals and key sectors
Trump’s policies and their focus on lower taxes, less regulation, growth and free markets are generally more favourable for financial markets and corporations. Biden would look to reverse some of the Trump tax cuts, increasing corporate tax rates while focusing more on green energy, healthcare and trade. These tax savings benefitted most US corporations, although much of the tax benefit ultimately went to shareholders.
Biden also proposes to more than double the federal minimum wage by 2026. Higher wage costs are likely to compress profit margins, although consumer spending in some categories could experience a positive shift if lower-income workers have more disposable salary.
Healthcare would benefit from a split congress or a Biden win
A split congress is generally optimal for healthcare companies because it limits each party’s ability to reform existing policy. While we believe that the Affordable Care Act will ultimately be upheld, a “blue wave” would likely result in efforts to strengthen the existing law. Biden also advocates a “public option” for healthcare insurance, mainly to expand coverage of lower-income citizens. We believe that a Biden win would result in expansion or maintenance of coverage, which would be supportive for the healthcare space.
Bolstering the energy transition … or oil production?
Biden’s “Clean Energy Revolution” plan calls for USD 1.7 trillion in spending over ten years. Biden also intends to re-join the Paris Agreement and prohibit new drilling permits on federal land, which are estimated to account for 25% of oil and 10% of gas production in the United States. While many of Biden’s anticipated policies are likely to reduce US-based supply, his vehicle efficiency requirements could reduce US demand for oil. President Trump’s support for energy has been primarily focused on job production tied to the sector and less so on potential green energy initiatives.
Financials will continue to benefit from a Trump administration
Financial companies, which were some of the largest beneficiaries of the 2017 tax cuts, would be most vulnerable if those cuts were to be reversed. A Biden administration would certainly be less positive for banks than a Trump administration, but we would expect that Biden’s initiatives will be more targeted and less sweeping than the actions taken by Obama. Trump’s tax and free-market policies are supportive of financial institutions, as is a continued easier regulatory environment.
What effect might the election have on ESG factors and responsible investing?
Biden’s policy proposals and his sponsorship of clean energy and equal access to healthcare, financial services and fair wages are generally more aligned with NN IP’s focus on responsible investing than Trump’s, which are more business- and shareholder-friendly, with a focus on growth and limited regulation.
Could a Biden presidency lead to an inaugural green US Treasury issue, whereby the US would follow the global trend of sovereign green bond issuance? The fiscal spending related to his clean energy plans and sustainable infrastructure would allow for the projects needed to justify green issuance, but we haven’t heard comments from either candidate that lead us to expect such a step in the near future.
Uncertainty creates opportunities
Our US investment grade market strategy going into the election is to maintain a market-neutral approach. Near-term uncertainty is tangible via the credit derivative markets, which implies a potential negative impact on credit spreads well after Election Day. The tail risk to the downside comes from a prolonged uncertainty on the results and a potential delay on fiscal stimulus after Inauguration Day in January. We would consider this as an opportunity to buy into weakness and tilt our credit sector allocation to areas that will benefit the most in the new economic and regulatory framework. From a US high yield perspective, we are slightly long risk due to bottom-up security selection, with a focus on opportunities where we see temporary disruptions as a catalyst for fundamental improvement, and sufficient liquidity to weather the current volatility.