November 5, 2020

Investor angst was palpable leading up to the November election as the market was caught up in a tug of war. Upside has been capped by election uncertainty, COVID-19 concerns, the uneven economic recovery and the stalemate on fiscal stimulus. Conversely, ongoing monetary stimulus, attractive equity valuations compared to bonds and cash, rising profit trends, progress toward a COVID-19 vaccine as well as the high probability of stimulus, even if delayed, has provided support at the bottom of the range. The final week of October also saw one of the worst declines in history in the week before an election, which was followed by one of the strongest post-election rallies ever. As we go to press, investors are waiting to exhale, as the final outcome remains unknown.

What is clear is that the blue wave that was somewhat expected did not materialize and the likely result, though not the only possible outcome, is a divided government. We view the potential of a split government as a market positive on a medium-term basis. Any near-term disappointment of a potentially smaller fiscal stimulus package will likely be offset by a lack of tax increases. Moreover, history shows that stocks have produced positive returns under various political configurations. Other factors, such as the economy and earnings, tend to matter more than Washington policy.

Markets are likely to trade in a volatile fashion based on near-term headlines, but the weight of the evidence in our work suggests the primary market trend is higher. Election uncertainty should eventually ease. Monetary policy is set to stay very accommodative. Fiscal stimulus is likely forthcoming, even if delayed. The economy should continue to move forward, albeit with fits and starts, and stocks remain attractive on a relative basis. Moreover, investors were already braced for uncertainty. The Volatility Index (VIX) closed the final month before the election at double its level relative to the last two elections.

This is one of the reasons we boosted equities in early October during the market pullback as there is a high price to be paid for perceived certainty. Once clarity arrives, the market has often already moved. Within equities, we maintain a US bias. However, we are also raising emerging markets to neutral based on improved relative price and earnings trends, primarily driven by Asia. It still appears premature to fully endorse a value tilt given the uneven economic trends as well as the potential of a delayed and smaller fiscal stimulus package. At the sector level, we are overweight a combination of growth sectors, such as consumer discretionary and technology, and more economically-sensitive sectors, such as industrials and materials. Although we advise an underweight position in fixed income, high quality bonds should provide portfolio ballast, and we continue to see relative value in credit. We also still see the diversifying benefits of holding a modest position in gold as a partial hedge against COVID-19 and election uncertainty as well as US dollar weakness and growing debt levels.

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