Market Reactions to the US Presidential Election

The financial markets have been bracing for the upcoming US presidential election throughout October, with rising uncertainties leading to notable volatility. The tight race between Donald Trump and Kamala Harris has prompted investors to gravitate towards safe-haven assets as they hedge against potential risks. However, neither the so-called “Trump Trade” nor the “Harris Trade” guarantees a foolproof strategy, as it is ultimately the implementation of post-election policies that will dictate market trends.

Once a decisive election outcome is announced, an immediate market reaction could be a reversal of current trends. According to Michael Brown, Senior Research Strategist at Pepperstone London, “the biggest fillip for risk, no matter who ends up winning, would be the certainty of the result.” He further elaborated, “Markets continually crave certainty, which such a result would provide, and allow those who have hedged election-related risk to unwind those positions and re-enter the fray.”

Expectations for Stock Market Recovery

Global stock markets are likely to experience increased volatility during the voting hours on November 5, mirroring the dramatic reactions observed during the Brexit referendum and the 2016 US election. In the previous US election, markets experienced a sell-off leading up to Election Day but rebounded as Trump delivered his victory speech.

While historical patterns may not perfectly repeat, recent movements indicate notable similarities. The CBOE Volatility Index, widely regarded as a standard measure for hedging risks, surged by 35% during October due to heightened risk premiums.

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Major global indices, including the S&P 500, Euro Stoxx 600, and ASX 200, have seen declines of between 2% and 3% over the past two weeks due to a prevailing risk-off sentiment. Brown noted that markets are currently pricing in a range of volatility between 2% and 3% for these indices over the next five trading days. This suggests that equity markets may recover from recent losses next week, provided there are no recounts or events that prolong uncertainty.

In the long term, stocks could face headwinds under a Trump administration if his proposed policies, such as imposing tariffs, are enacted. For instance, global markets underwent a significant sell-off during the US-China trade war in 2018, with a recovery only occurring after the Federal Reserve resumed rate cuts in 2019. Since September, the Fed has initiated rate cuts and is expected to continue this trend into December, which may bolster a bullish outlook for equities. However, a Trump victory could bring about increased market volatility over the next two years, while a Harris administration might offer a more stable economic environment, enabling markets to respond more naturally to economic dynamics.

Continued Bearish Trends in Bonds

The US government bond market experienced sharp sell-offs in October due to two primary factors. First, the job data released in September indicated a more resilient US labor market than analysts had anticipated. Following the significant rate cut by the Fed in September, bond prices initially rose due to falling yields, as there is an inverse relationship between yields and bond prices. However, the market has since adjusted its expectations regarding future Fed cuts, now anticipating a more gradual approach, which has resulted in rising yields and subsequent bond sell-offs.

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Additionally, the “Trump Trade” has significantly influenced rising US Treasury yields, as his policies are anticipated to increase inflation, prompting the Fed to slow down further rate cuts. Typically, bond yields, particularly on shorter-term notes, reflect market expectations regarding interest rate movements.

A Trump victory could exacerbate sell-offs, as his administration would likely increase the budget deficit and inflationary pressures, compelling the Fed to curtail its rate-cutting pace. Conversely, a Harris presidency may not necessarily lead to an opposite effect in the bond market, as her policies may also contribute to rising government debt and deficits, albeit potentially to a lesser degree. The most balanced outcome for the bond market might arise from a divided Congress, which could introduce checks on excessive government spending and stabilize inflationary pressures.