US Mid-Term Elections In Focus: How Will The Market React?

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With just two months to go, the upcoming US mid-term elections on November 6th are beginning to take more of a central focus for the market. While the Presidency is not on the ballot this time around, just congressional seats, it is the balance of power in US Congress that is in focus as all 435 seats in the House of Representatives and 35 of the 100 seats in the Senate are due to be contested.

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Divided Congress Expected

The base case scenario for these elections is for them to result in a divided Congress with Republicans retaining control of the Senate but losing the House of Representatives to the Democrats. Indeed, a midterm loss has been a common feature for sitting presidents with five of the last eight mid-terms seeing the Presidential party losing control of at least one chamber of Congress.

Will Trump Become More Bipartisan?

The outcome of such events is that the sitting president is forced to take a more bipartisan approach to be more co-operative. However, the extent to which sitting presidents have displayed bipartisanship has varied. President Obama, for example, found it difficult to strike common ground with the Republicans despite his diplomatic nature. Given Trump’s notoriously confrontational approach, it is unlikely that he will fare any better.  In this instance, Trump would likely find it difficult to pass any major domestic legislative initiatives and so would seek to push his policy agenda through executive orders in the same way Obama did.

Although there would be an increased risk of a further standoff over government funding and increasing the debt ceiling, compromises on issues such as these have already required bipartisanship given the 60 vote supermajority needed in the Senate which the Republicans have failed to secure. So, with this in mind, the nature of debates around issues such as these might not change too drastically.

However, a further escalation of the trade war with China as well as the inability to stop further fiscal policy tightening in 2020 would have heavy ramifications for the economic outlook. The consequences would be less pressure on the Fed to increase rates and therefore less upward pressure on bond yields. More tariffs and an intensification of the trade war would likely see some short-term demand for USD though, in the long run, USD would likely suffer.

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What If Democrats Win Both Chambers?

If the Democrats win both chambers of Congress in the elections, the market reaction is likely to be far stronger. Furthermore, the chances of Trump facing impeachment (which has long been spoken about) would rise in the event of the Democrats controlling both chambers of Congress given the need for a two-thirds majority In the Senate. If the Democrats secure a big win in these elections along with any further proof of Trump’s misdemeanors, this conversation could gather more traction.

What If Republicans Gain A Supermajority?

On the other hand, if the elections go the other way and the Republicans gain control of both chambers of Congress but with a supermajority in the Senate, the market reaction is likely to be just as severe. Such an outcome would raise the likelihood of further tax cuts and more deregulation along with more stringent immigration laws, healthcare reform and freedom to adjust fiscal policy. This would likely results in the need for further monetary policy tightening by the Fed which should result in both stronger bond yields and a stronger US Dollar.

Technical Perspective

us index

For now, the USD Index is fighting it out around the 95.10 level which was broken on the recent rally and is now seeing some support. If price can stay back above this level, the focus will turn to a run-up to higher resistance at the 97.66 level with the bearish trend line from 2016 high coming in above. To the downside, a break lower will turn focus to the 91.00 region.

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