The implications of Barack Obama's election victory

OPINION: BARACK Obama's historic election victory is likely to see an even more aggressive approach to dealing with the financial and economic crisis now gripping the United States.

Introduction

This note looks at the investment implications of Barack Obama’s presidential election victory in the US.

Policy platform

In an historic election Barack Obama has won the US presidency on a platform of change. While an Obama presidency will step back from the pro-business, almost laissez-faire, neo conservative approach of the Bush Administration, an extreme lurch to the left is unlikely. Rather, Barack Obama is likely to prove pragmatic much as President Clinton was. Key aspects of an Obama administration are likely to be:

·       A new fiscal stimulus package, much larger than that seen earlier this year, is likely to be enacted early next year. Although given the US Government’s already huge borrowing program (reflecting the existing deficit plus numerous measures to deal with the current crisis) Osama’s scope to stimulate is limited somewhat.

·       More active Government intervention to prevent home foreclosures and increase bank lending, particularly by banks receiving government assistance.

·       Tax cuts focused on low and middle income earners, but tax increases for high income earners (back to pre-Bush top marginal tax rates).

·       An increase in tax rates on dividends and capital gains from 15%, but possibly only to a top rate of 20%.

·       Increased regulation of business, particularly the financial sector. (This is inevitable in most countries after the current crisis.)

·       Increased government spending in areas like health, education and infrastructure.

·       A commitment to free trade, but more incentives for US companies to create jobs in the US.

·       More concern about the environment and introduction of a carbon emissions reduction scheme.

·       A more multilateral approach to the “war or terror” and to foreign policy generally.

It’s also worth noting that the Democrats’ increased majorities in both Congress and the Senate put President-elect Obama in a good position to implement his policies. It will also enable the US Government to have a more decisive approach to dealing with current financial and economic challenges in contrast to the debacle seen in late September/early October in trying to pass the bank rescue program.

Investor reaction

The conventional view is that a Democrat victory would be negative for shares (via higher taxes and more regulation). For example, in a recent survey only 17% of US investors though that a Democrat victory would be positive for profits compared to 55% who thought that a McCain victory would be positive and 54% of investors thought that shares would fall in November and December if Obama won compared to only 14% who thought shares would fall if McCain won.

The statistical evidence suggests that US shares do better in the year after an election when an incumbent Republican party wins, as opposed to when an incumbent Republican party loses. However, the difference is not all that great. There is also some evidence based on data over the last century that US shares do better between election day and year end when a Republican president is elected.

However, there are several points to note regarding all this. Firstly, this year’s presidential election has been a side show with shares plunging in response to the turmoil that the US sub-prime mortgage crisis has caused. This is very different to the broadly sideways range trading that prevailed in the run-up to the last two elections when incumbent Republicans lost to Democrat presidential candidates in 1976 and 1992. See the next chart, which shows US share prices as measured by the S&P 500 from 1 year before till 6 months after US elections from 1976. Given the scale of the problem now facing the US, it’s likely that developments in relation to the credit crisis will continue to dominate politics in terms of share market impact.

In the short term, shares are still very oversold and so they might bounce further regardless of the election outcome. And getting the election out of the way may also help.

Source: Thomson Financial, AMP Capital Investors

Secondly, the chart above indicates that a Democrat victory doesn’t necessarily mean a bad outlook for the market. After the 1976 Carter victory over a Republican incumbent shares performed below par in the aftermath of the election but shares did better than normal after Clinton’s 1992 victory.

Thirdly, it’s possible that a change of Government in the US will be welcomed by investors. The Bush Administration has lost credibility after having prevailed over two bear markets, two recessions, a big policy failure with the sub-prime mortgage debacle and become bogged down in Iraq. In the post war era, this track record is only on a par with that of Richard Nixon. This loss of credibility may have harmed the US Government’s ability to deal successfully with the recent financial turmoil. So having a change in direction to the Democrats may be seen as offering a new positive start.

Fourthly, with the private sector now in retreat in response to the credit crunch and a loss of confidence more interventionist government policy may be viewed by many investors as what is needed right now.

Finally, the historical record indicates US shares have actually done better under Democrat presidents. See the next chart. Since 1945 the average return from shares as measured by the S&P 500 under Republican Presidents has been 10.2% pa versus 15.1% under Democrats.

Source: Datastream, AMP Capital Investors

So for these reasons Barack Obama’s election victory may well turn out to be positive for US shares, or at least there is no reason to see a negative impact. Given the key role that the US share market plays in setting the direction for most global share markets including Australia’s, the same would apply to them as well.

For those focussed on the very short term, the next table shows the short term performance of US shares around the last seven US elections.

US shares (S&P 500) around presidential elections

Source: ISI, AMP Capital Investors

On average shares have gone sideways in the week straight after the last seven elections but they have rallied into year end. The only time this didn’t occur was after President George W Bush’s election in 2000 (which was a sign of things to come!)

Conclusion

Given the economic crisis now facing the US and the world, the US presidential election was perhaps the most significant in many years. Barack Obama’s victory will likely see a shift towards more interventionist economic policy and a more aggressive approach to dealing with the current crisis. Given the current situation such an approach is probably appropriate and may well be seen by investors as providing more confidence in an eventual economic recovery.

It’s also likely that the decision of Americans to elect Barack Obama as their next President will radically improve the way the rest of the world sees, and interacts with, America and this can only be a good thing.

By Dr Shane Oliver, head of investment strategy and chief economist with AMP Capital Investors.*

Australian Property Journal