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07 November 2018

US election results 

So this time the pollsters were right: the House of Representatives turns blue, i.e. falls into the hands of the Democrats, while the Senate remains in Republican hands.

The risk of having a ‘lame duck’ president has therefore increased. But this is not at all what President Trump is about to accept. Hence, more volatility and friction should be the outcome. You should also normally brush aside new tax cuts for companies or wealthy individuals. The Democrats will ask for their part of the bargain. Big splashes on infrastructure will also need the commitment of the Democrats as they also control the purse strings to permit financing it all. In brief, the risk of additional deficit spending looks more limited which also implies less risk for an overheating economy. Already this morning, the Dollar Index, a well-known gauge for measuring dollar strength, is down. Not a lot but it might be symbolic just the same. The same goes for the yield of the 10-year US Treasury bond.

The question for the markets now will be just how President Trump is going to rule. Will he try to compromise with the Democrats or will he try to get his way via the use of extensive executive orders, which is a directive issued by the president that has force of law. However, nothing looks that simple. The Supreme Court and the Congress can overturn such orders. Congress can simply pass new legislation that invalidates the executive order. It could simply also torpedo it by refusing to fund it. Then again, the president has the right to veto such a decision by Congress. In brief, all this could mean lengthy and difficult days for lawmakers on Capitol Hill.

Where does this leave the global bourses? While future markets suggest positive openings for both Europe and the US, one element is striking. That is valuation. Over the past months, price earnings ratios have come down a long way for almost all markets. As things stand today regarding Europe and emerging markets, you do not need a lot of earnings growth to justify buying equity. In the US, we’ve come down as well, since earnings growth has clearly outpaced the rise in prices. If you take out the more pricey tech stocks, the likes of the S&P500 or Dow Jones would even be trading at lower multiples. The snag is that a large part of the earnings growth has come from the tech sector.

The upshot is that overnight the picture might not have changed too much but that on balance it seems less dollar and bond-yield friendly. Valuations should underpin equity markets more, especially if earnings growth remains up to speed. The latter, of course, will to a large extent depend on economic growth. Recently, commodity markets have been indicating that there are some doubts on this front.