Stock markets get the election jitters--and not just in the U.S.
10/05/2010 8:30 am EST
No, no. I don’t mean just in the United States. You don’t need me to point out that your neighbor’s lawn is festooned with Vote for … signs. Or that TV is plastered with Don’t vote for… messages. Or that your inbox is full of “Contribute to… appeals.
But the United States is just one of the world’s countries holding an election in the next month or so. In fact, if you include formal elections (Brazil and the United States), formal non-election elections (China), and future elections in the making (Italy and France), almost two billion people are engaged in some kind of election activity right now.
Why is that important for you as an investor?
Because, by and large stock markets hate elections. Elections aren’t predictable. They are hard to hedge so investors and traders get stuck with a lot of the risk generated by that unpredictability. And, making the unpredictability and risk worse, elections can produce major changes in policy that can change the profitability of industries and in a worst case investing in general.
All that means that elections make stock markets nervous. Which in turn can create big moves on little or no real information, and certainly exacerbate normal fluctuations in market sentiment. It’s a good idea to pay attention so you can separate the market moves that you need to pay attention to from those you don’t and so you can flag those over-reactions that might be buying or selling opportunities.
In a moment I’ll get to a list of elections, near elections, and potential elections over the next month that I think could move stocks.
But first let me use the recently concluded Brazilian voting--well, the first round is over but without any candidate scoring a majority so it’s headed to a runoff--to illustrate exactly how nervous even a relatively simple to project election can make investors.
On Sunday October 3 Brazil voted for new president to succeed Luiz Ignacio Lula da Silva, who is barred by the constitution from running for a third consecutive term. There’s never been much doubt that Dilma Rousseff, known in Brazil as Dilma just as the president is known to every Brazilian as Lula, would win the election. She’s Lula’s anointed successor—no small advantage when the president has an 80% approval rating—and she’s seen as a relatively colorless but efficient administrator who would carry on Lula’s policies—no small advantage when the president has an 80% approval rating.
But while Dilma has never trailed in the polls, in the days running up to the election the race tightened enough to throw into doubt her ability to poll the 50% or more of valid ballots required to avoid a run off. According to a Datafolha poll published on September 28, Dilma had a clear 16 percentage point lead over her biggest rival Jose Serra. But that put her at just 46% and was down five percentage points from her numbers two weeks earlier and three percentage points down from her polling numbers a week earlier. Most of that loss went not to Serra but to the third candidate in the race, Marina Silva, of the Green Party. On September 29 she had climbed to 14% in the polls, up from 9% a month earlier.
Not much for investors to worry about here, right? A candidate who is pledged to continue the policies of a wildly popular president is far in the lead. Her closest opponent is showing no signs of picking up ground. The worst that could happen is a run off that she is certain to win.
And yet the market got noticeably nervous. Volume for the iShares MSCI Brazil Index ETF (EWA) and for individual stocks such as Vale (VALE) and Itau Unibanco (ITUB) fell on pre-election Thursday and Friday (even though prices didn’t move significantly downward.) Investment bankers gave interviews saying the election was a non-issue for their plans to raise big money in stock and bond offerings for their Brazilian clients. Fund managers on road shows to raise huge funds to invest in Brazil chanted the “no-issue” mantra too.
But somewhere in the background everybody remembered 2006 when, shockingly, Lula was forced into a run-off in his bid for re-election when he received just 48% of the vote.
When Brazil voted on October 3, it gave Dilma the largest share of votes—47% to Serra’s 33%--but not a majority. The election is now headed to a run off on October 31. At least the stock market can stop fretting about the possibility of a run off.
With this as a model, let’s go on my tour of the world’s elections, near-elections, and elections to be. I’ve ranked the list in order of how big I think the effect could be starting with the not very big and moving to global market moving.
- The United States. Right now Nate Silver on FiveThirtyEight (http://fivethirtyeight.blogs.nytimes.com/), for my money the best analyst of election trends, gives the Republicans a 65% chance of taking control of the House of Representatives with a relatively small majority of 224 seats (a majority in the 435 seat House is 218). He puts the party’s chance of gaining control of the Senate at 22%. That’s up from 18% last week but still below the 26% peak before Christine O’Donnell won the Republican nomination in Delaware. If Silver’s read is correct, the U.S will come out of the election with more gridlock. Neither party would be able to move any part of its legislative agenda. The Republicans have promised to launch investigation after investigation of the Obama administration if they gain control of either house of Congress and I don’t see any reason to doubt that promise. Gridlock will leave kick solutions to pressing budget problems with Social Security and Medicare down the road and leave the U.S. budget deficit intact. That’s not likely to sit well with the overseas investors who fund our deficits. Under that scenario the U.S. dollar will continue its decline. U.S. voters have frequently expressed their preference for divided government but for investors the big question is What does Wall Street expect from this election? In 2008, Wall Street gave more to Democrats than Republicans ($90 million to $68 million), according to the Center for Responsive Politics (http://www.opensecrets.org/ ), reversing its historical preference for Republicans. This year Wall is projected to have swung back to the Republican side with a vengeance. Will all that money be satisfied with gridlock or disappointed at not being able to role back the limited reforms of the last two years? The mood on Wall Street gets played out in everything from analyst opinions to portfolio allocations. A disappointed Wall Street will, in the short run, be a negative for U.S. stocks—and quite probably a positive for overseas assets.
- China’s Communist Party holds its annual meeting from October 15-18. The party will decide on the country’s next five-year economic plan and is expected to make appointments that will further mark the elevation of Xi Jinping to replace the team of President Hu and Prime Minister Wen when their retire in two years. Xi is expected to get a seat on the Central Military Commission at this year’s meeting. That would punch the military card that China’s leaders are required to carry. This “election” could ha e two potentially disruptive results. First, Xi could fail to get the post. Many observers of China’s leadership expected that he would get the post last year. That could indicate some uncertainty or division among the country’s leadership. Second, disagreements about economic and political reform could emerge into the open at the meeting. (Keep in mind that I’m talking about “into the open” in a Chinese context.) That could mark unsettling uncertainty about the country’s direction. And China’s investors, who gamble on every change in government policy, would be left guessing on that policy.
- Italy and France don’t face actual elections this year—but domestic politics in those countries are pushing existing governments toward earlier than expected elections. Call these potential elections. The effect could be to create an entirely new level of worry about the euro. In Italy the coalition government of Silvio Berlusconi survived a no-confidence vote on September 29 by 342 votes to 275, but the odds are still that Berlusconi’s will be forced to call early election, most probably in the spring of 2011. (The government’s term runs until 2013.) It certainly didn’t help that in the days running up to the vote, Berlusconi ally Umberto Bossi, head of the Northern League called Romans pigs. Bossi referred to the ancient Latin SPQR motto of Rome that dates from the days of he Roman Empire saying that it stood for Sono Porci Questi Romani (These Romans are pigs) rather than Senatus Populus Que Romanus (The Senate and Roman people.) The fall of the Berlusconi government would have more impact on financial markets than Italian politics usually does because it comes at a time when investors are worried about the ability of Europe’s most indebted economies to balance their budgets. Italy faces a huge budget deficit and its economy is increasingly uncompetitive in the global economy. Anything that focuses attention on the inability of any Italian government to fix the country’s problems won’t reassure investors. But the political situation in France has even more potential to move markets to the downside. Approval ratings for President Nicolas Sarkozy have move to an all-time low with 72% of respondents in a recent poll saying they do not trust Sarkozy to solve France’s problems. That’s a drop of 5 percentage points in a month. The president’s standing is falling fastest among older voters who had been among his strongest supporters. Polls say that 60% of the people over 65 don’t have confidence in the president. That’s an increase in his unfavorable numbers of 7 percentage points from the last poll. While Sarkozy’s recent hard shift to the right on issues like immigration have cost him points in the polls with his party’s moderately conservative base, the big drop among older voters is connected to his pension reform proposal that would raise the retirement age to 62 from 60 by 2018. If very modest change like that isn’t politically possible in France, the country stands no change of closing its current budget deficit of 7.7% of GDP, according to government figures. The government has announced a plan to reduce the deficit to 6% in 2011 and 3% by 2013. That would finally get France back within European Union budget deficit guidelines. But if Sarkozy can’t get his plan passed and the current government is forced to hold elections ahead of schedule in 2012, investors will rightly ask whether this plan is worth even a centime. And it’s one thing for Italy to run a big deficit—Italy always runs a big deficit. But for France to show no signs of being able to get its budget in order is a totally different matter. This wouldn’t be a problem in Greece or Ireland or some other country at the edge of the euro zone. This would be a problem in one of the two countries (Germany being the other) that are the heart of the euro. (For more on the euro’s problems in the periphery see my post http://jubakpicks.com/2010/10/01/now-its-irelands-turn-to-rattle-the-euro/)
That’s why the potential election in France gets my vote for the most important in this extended election season.
Full disclosure: I don’t own shares of any company mentioned in this post in my personal portfolio.