Why the US midterms could signal a return for Donald Trump

What are the US midterm elections?

Voters in the United States go to the polls tomorrow (Tuesday 8^th November) in the midterm elections. The midterms are elections held near the midpoint of a president's four-year term of office, on the Tuesday after the first Monday in November. The results will decide who controls the US Congress – which is comprised of the lower chamber, the House of Representatives, and the upper chamber, the Senate.

In tomorrow’s election all 435 seats in the House of Representatives and 35 of the 100 seats in the Senate will be contested. In addition, 34 of the 50 US states will elect their governors for four-year terms, while Vermont and New Hampshire will elect governors for two-year terms. Thus, 36 governors will be returned. Other state officials will also be voted in and, at a municipal level, mayors elected.

Historically, midterm elections often see the president's party lose seats in Congress and they frequently result in the opposition party gaining control of one or both houses of Congress.

Why are they important?

In the US, new laws must be passed by the House of Representatives and the Senate. Therefore, it is very difficult for a president to pass new laws unless their party controls both houses of Congress. It is also worth highlighting that the party in power will generally try to implement voter-friendly policies after the midterm elections. They deploy this tactic to increase their popularity with voters in the final two years of the presidency. As a result, markets have historically performed better in the final years of the four-year presidential cycle. As an example, companies and voters might benefit from tax cuts in the run-up to an election.

What will be the impact?

The Democrats currently control both the House of Representatives and the Senate by slim margins. However, most forecasts predict the Republicans will take control of the House of Representatives in tomorrow’s elections and the Senate could go either way.

President Joe Biden’s most immediate concern is that he will not be able to pass anything through Congress if Republicans take over one or both chambers. He is unlikely to be able to pass any new laws unless the Republicans support them too and this will have a significant impact on his ability to govern. Voters will be looking at Biden’s record of achievement, and if he is unable to deliver on major promises, because Congress will not pass the necessary laws, he will have fewer accomplishments to show to the American people when they choose their next president in 2024. This is likely to reduce his chance of re-election.

Additionally, a strong election outcome for the Republicans could signal a return for Donald Trump. So, these elections could set the scene for the next presidential race in the US.

There could be other far-reaching impacts. Some Republicans have been less supportive of providing funding to help Ukraine in its war with Russia. This could change the dynamic of the conflict and have a wider impact, both in Europe and globally.  

In terms of implications for markets, US equities tend to enjoy a modest bounce after midterms, because investors respond favourably to the certainty provided by election results. However, today’s markets are focused elsewhere, so regardless of the midterm outcomes, US equities are likely to ultimately revert to trading on the future path of central bank interest rate policy and its impact on the US economy and company profits.

What are we doing?

Throughout much of 2022, we have been positioned defensively in our allocations to the US, preferring funds that invest in companies that have strong balance sheets and generate sustainable cash flows. This is on the basis that these companies should be able to withstand a weaker economic climate or any potential recession.

However, after a very challenging year, we believe US equities offer a lot more value today and we want to be able to take advantage of the opportunities presented. As a result, we have recently been looking for funds that will benefit from a more favourable market environment, when the cycle inevitably turns up. We are currently researching small caps and funds with a growth bias.

On a knife edge – how the Battle for the Senate looks in the run-up to the midterms

Nathan Sweeney, Deputy CIO of Multi-Asset, Marlborough - 04/11/22

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