The markets hate uncertainty. Going into the US Presidential Elections
on Tuesday 8th November, the
financial markets have experienced considerable volatility, affecting nearly
every asset class from stocks to bonds to commodities.
Since nobody can claim to have a crystal ball that can predict the election
outcome with absolute certainty, investors and traders alike are bracing for more volatility post-elections.
We can, at best, guess what could happen to the various asset classes should
either candidate win.
Before any analysis is done, I wish to emphasize that I remain neutral on
the Presidential Elections and I
do no support/endorse any candidate.
A Nail-Biting, Close Race
Given his unpredictability and unorthodox policies, the financial markets
have some sort of disdain for Donald Trump,
preferring Hillary Clinton instead, who in their eyes largely represents the
status quo. It is therefore no surprise that there was a spike in market volatility in recent days as Trump’s standing in
the polls gained ground rapidly. While Clinton does appear to lead by a small
margin, traders are taking no chances this time, with the memory of the shock Brexit vote still vivid in their minds,
they are hedging themselves in or cutting exposure altogether.
The uncertainty in the run-up to Election Day has bloodied the stock market, with the S&P500 index falling for 9 days consecutively – a
phenomenon that has not happened in 36
years. Safe haven gold has also rallied sharply, while the US Dollar sold
off. It does appear that the market is already
pricing in a Trump victory.
Should Donald Trump clinch the presidency, the current trajectory of the
asset classes would be exacerbated for sure, but the duration which it lasts
before calm and rationality are restored is anybody’s guess. However, knowing
the financial markets behave like a hyperactive kid, attention could quickly turn away from the election result and onto the
next big event on the calendar – the OPEC
meeting on 30th November, and
again suffer from volatility until that outcome becomes known.
In the long term, and in the greater scheme of things, the outcome of
the elections won’t matter. Long term investors
should do nothing but sit tight and at most purchase some downside
protection if it helps them sleep better at night. The markets would probably
dismiss this event quickly and move on to focus on other things.
However, if one were a trader/speculator, it would be interesting to
know the potential reaction of the markets (and hopefully be able to profit off
this risk event). Being inclined to both long term investing and trading, I see
no harm in predicting what could happen in either scenario.
Equities
For certain, a Donald Trump win would spark a sharp selloff in stock markets worldwide that may last the week,
but not discounting the possibility of upward bounces in the interim. A Clinton
win would see a quick relief rally,
before the markets forget about the event altogether and then become influenced
by other (more exciting) happenings. Given either scenario, the greater directional
likelihood is still to the downside, but the
extent of the any one day move will not surpass that after the Brexit vote.
S&P 500 (SPX)
The brutal 9-day losing streak
has broken through long term resistance-turned support at 2120. A Trump victory could spark a further selloff to
challenge support at 2040 (about a 2% drop). However, given that equities have already
seen such a long losing streak and technicals point to oversold conditions, the likelihood of a plunge to challenge the
extremely critical 2000 level is small. Instead, traders could shrug off the outcome altogether toward the
end of the week and equities could see a bounce.
A Clinton win would like turn the trend around, with the S&P heading
back to challenge the 2120 level. However,
attention could quickly turn to the OPEC meeting and the potential Dec 16 Fed
rate hike, which could dent sentiment
once again. Not forgetting that the rather solid
jobs report on 4th Nov was neglected by the market obsessed with
the election and therefore traders “forgot”
to price it in.
Therefore, the potential upside
in the event of a Clinton win would be smaller than the potential downside from
a Trump win.
US Pharmaceutical & Biotechnology Companies (IBB)
With Clinton very vocal about clamping down on US pharma and biotech
companies, this sector could take a
beating rather than rally along with the broader market in the event of a
Clinton win. This view appears to be clearly expressed as the ETF tracking
NASDAQ biotech companies, IBB, has been falling as of late.
A Clinton win could
see prices fall to challenge long term
support at $240. However, a Trump win may not guarantee a rally in IBB as the
broader market suffers. This interesting scenario could be exploited in an
options play.
US Energy Companies (XLE)
Similarly, with Trump promising to cut down regulations on the energy
industry, energy stocks could see a
rally should he win. With the SPDR Energy ETF (Ticker: XLE) in a nice
uptrend channel since May, going long XLE to potentially profit off a Trump win.
A Clinton win could see XLE hold the lower trendline, but any significant move
is unlikely as energy stocks would quickly switch to taking direction from news
regarding the OPEC meeting.
Straits Times Index (STI)
Our local index has been swinging
around aimlessly for most of 2016, and has been stuck in an approximately
100-point trading range since the aftermath of the Brexit vote. Following the
worldwide selloff in equities, the market is now converging on critical support at 2790.
A sharp break through this support level should Trump win would be technically damaging, and further
losses could follow. A Clinton win could see a brief relief rally and the resumption
of the observed trading range. However, other fundamentals would take
centre stage following the elections and thus any long-term effect on the local
market seems to be unlikely.
Government Bonds
US Treasuries (US10Y)
While yields on US 10 Year Treasuries have risen, as global bonds
selloff in a massive unwinding of what
has been a very one-sided trade (long bonds) this year, they have come down
in recent days as investors seek shelter
in the safety of bonds amidst turbulence in the stock markets.
A Trump
victory could see a flight to safety,
pushing down yields to challenge the 1.7% level.
However, fundamentals could take over
quickly and the direction of yields would take cue from broader happenings.
A Clinton victory could see the resumption
of rising yields, in light of a likely Fed rate hike in December.
US Yield Curve
Also, in light of a probable rate hike in December, the 2 Year US T-Note (2 year bond) could rise
to a smaller extent that the 10 Year, and hence the 2 Year yield would fall
less than the 10 Year yield, in the event of a Trump win. This would have an
effect of flattening the US yield curve,
as the spread (plotted in the chart above) between the 2 and 10 year narrows,
in line with the broader trend of a flattening curve and giving off the ominous signal of an impending recession…
Commodities
Gold (XAU/USD)
Needless to mention, safe haven gold would rally in the event of a Trump
victory. The anxiety in the run up to elections has already driven spot gold
(XAU/USD) to challenge resistance at $1298 and $1307, with gold making a weekly close above the psychologically important $1300 level for the first time since early
October.
A Trump victory would be the much-needed catalyst to push gold firmly above $1300 and even
potentially challenge the yearly highs at $1375
in the longer term. However, a Clinton victory could see gold selloff sharply,
as traders “suddenly remember” the solid
jobs report on 4th November and how that substantiates a December
rate hike. That could quickly drive gold back down to around $1265 by the end of the week.
Crude Oil (WTI)
In a more precarious situation is crude oil, here represented by the US
WTI benchmark contract. The sharp
selling all week has driven it down to the bottom of the channel, and also
into the awaiting arms of converging support levels in the range of $44 to $44.30. A Clinton victory could see oil bounce
from this level, fuelling a short covering rally at the same time, and it could
end next week in the $47 zone.
However, a Trump victory could see prices push through support and stop out many long positions, further
fuelling the selloff. However, downside
momentum is not likely to sustain a drop to $40,
as oil would quickly take further direction from the looming OPEC meeting at
month end.
Currencies
US Dollar Index (DXY)
After a strong rally in October, the strength of the US Dollar, measured
by the US Dollar Index (DXY), has waned in early November, hit by uncertainty
over the elections. However, the outlook in the aftermath of the elections looks the most clouded to me.
Traditionally, the USD is a safe haven currency and should rally when
unfavourable events occur.
Since a Clinton victory is viewed to bode better for the US economy than
a Trump victory, the US dollar could technically rise as traders undo the
recent losses in relief, as well as turning
attention to a possible Dec rate hike, which is a dollar positive event.
A Trump victory could fuel
foreign demand for safe haven US Treasuries that are traded in USD, thereby
driving up demand for the USD as well. However, since Trump has signaled
protectionist trade policies, which could weaken the USD’s status as the world’s
reserve currency, the USD could also fall in response to a Trump victory. To
me, the outlook remains the most uncertain for the USD.
“Safe Haven” Currencies (JPY, CHF, EUR)
No doubt, safe haven currencies (Japanese Yen, Swiss Franc and to a
lesser extend the Euro) would see large inflows should Trump win, and outflows
in the event of a Clinton win. However, in light of the uncertain outcome of
the USD highlighted above, safe haven currency pairs with the USD (USD/JPY, USD/CHF,
EUR/USD) could experience significant
volatility.
Mexican Peso (USD/MXN)
The easiest to predict of all in this binary-outcome event would definitely
be the Mexican peso, which is why I saved it for last. With threats to build a
wall along the Mexican border and have Mexico pay for it, a Trump presidency is
not Mexico-friendly and the Mexican peso would tank severely as a result. Currently,
19.50 seems to hold resistance, with USDMXN unable
to break through it, evidenced by the long upper candle wicks. A Trump victory
would see this level demolished in no time, with USD/MXN challenging the 20.00 level very likely.
A Clinton victory would see a sharp
relief rally in the Mexican peso, again fuelled by short covering as funds
cover their shorts in what has been another crowded one-way trade for 2016. USD/MXN
could potentially challenge support at 17.800 in
this scenario as peso losses year-to-date come undone.
Fed Dec Rate Hike Probability
As a side remark I’ll also discuss the Fed rate hike probability for
December. Following a rather solid jobs report on Friday, which showed that the
economy added 161k jobs in October,
the case for December tightening has strengthened, with the Fed Funds futures
currently pricing in about 80% possibility of
that occurring.
However, since the Fed is supposed to be apolitical, whatever the result
of the Presidential Elections should not influence their decision to hike or
not. However, traders may think differently following a Trump victory, causing
the implied probability to drop in the short run. I do not expect the
probability to move much should Clinton win. Whatever the result, I continue to
see a hike in interest rates come December.
Just my two cents.
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