Second COVID‑19 wave and US political uncertainty raise questions about the future

• With probable Biden win and senate control remaining among republicans, election uncertainty has abated, but probability of new stimulus bill is still unclear;
• Second COVID‑19 wave and new lockdowns in Europe reintroduce economic uncertainty in the region, however, there is still hope that situation in other regions could remain better; 
• Central bank actions and no additional economic shocks might still lead to decent post‑election rally until Christmas;
• Despite high volatility, investors still should carefully follow their long‑term investment strategy.

October was rather controversial month for financial markets. It started on a positive note with investors being excited about new massive fiscal stimulus bill to be potentially introduced in the USA, but ended in the negative territory due to coronavirus developments in Europe combined with US political uncertainty. As these two factors continue to drive investment performance in November and both are more important than anything else, we would discuss both of them in more detail.

COVID‑19 situation in Europe started to get out of control already in mid‑September registering new record in number of new daily cases compared to developments in spring¹. However, for the time being, European governments tried not to introduce harsh measures to fight spread of virus, as situation with hospitalizations and number of deaths was still much lower than at the beginning of the year. But with weather becoming colder and spread of disease intensifying by late October, disturbing trends both in number of seriously ill patients and deaths has also reemerged. As a result, one by one, countries like France, Germany, UK and others had no choice, but to announce new strict lockdown measures, what in essence means – new major economic hit and trouble for local financial markets, if no countermeasures are introduced. 

New daily deaths of COVID-19 (weekly average)

*European data includes Germany, France, UK, Spain, Italy, Netherlands and Belgium
Source: Bloomberg​

New daily deaths of COVID-19 (weekly average)

Source: Bloomberg​

Thankfully, for financial markets in global context, COVID‑19 risks are materializing only in Europe right now, while situation in USA still remains much better, and there is almost non‑existent risk of second wave in majority of Asian countries at the moment as well. This is also the reason, why local Asian indices in countries like China or Japan have barely declined and even increased in EUR terms throughout the month. 

Performance of selected regions in EUR since 2020 09 30

Source: Bloomberg​

In November, coronavirus impact on financial markets would largely depend on whether European leaders would try to introduce new fiscal aid in the region to help mitigate damage to businesses and job market created by new lockdown. In addition, ECB already hinted on new monetary measures in December, but question is, will buying of financial assets be enough to prevent enterprises from potential bankruptcies, unless those companies would receive actual funds to survive. 

Another potentially even bigger problem is what will happen in USA, which is much more important region than Europe, in terms of its impact on the markets. Cases continue to spike there, but number of deaths is still much lower than in spring and summer. Many experts fear that as flu season would intensify in Northern America, hospitalization trends would also become similar to what is experienced in Europe, just with a lag. And if it is indeed the case, new lockdown in USA without solid fiscal stimulus in place might become a very troubling development indeed.

With that in mind, let us shift focus to US politics and what election results will probably mean for the future. Probable victory of democrat Joe Biden² and republicans maintaining control of the senate indicates potential stalemate for consensus on future policies. Whatever decision Biden and democrats would try to introduce, be it massive fiscal stimulus bill, new infrastructure spending, change in tax policies or other matters, republican senate would be able to block any of such initiatives. As a result of such potential confrontations, needed policies - mainly fiscal spending to provide additional income for millions of unemployed and to grant funds to negatively affected companies will probably not be introduced in a timely manner. That is why if COVID‑19 dynamics would worsen in USA, but no stimulus bill is there yet, economic damage might be even more severe than expected. 

Another issue that might complicate matters even more is possibility of Trump initially not accepting the elections result. As current race for presidency was extremely tight, and key battleground states were won by Biden with a narrow margin, Trump may appeal to US Supreme Court in order to initiate recount procedure in these important states. In 2000 presidential elections similar situation has happened, when Al Gore was identified as a winner at first, but through recount, it became clear that Florida³ votes were counted incorrectly and actual winner should be George Bush Jr. That is why until inauguration process in January, there is still risk that Trump will not be ready to announce himself as a losing side, and it would be extremely hard to pass any bills or initiatives while this uncertainty is still present. From this perspective any stimulus bill may come not earlier than only February.

However, despite these risks market initial post‑election reaction turned out to be very positive. Similar to what happened in summer main winners turned out to be FANMAG and other popular large‑cap stocks. Hard to say, whether investor mania, which we mentioned in some of our previous reports, is ready to continue for another several months irrespective of any news or risks out there. But what can definitely contribute to another wave of investor euphoria are new monetary actions that may be introduced by Central Banks in order to stabilize financial system in times of COVID‑19 and political uncertainty. 

Major central bank total assets (USD'bln) and performance of global equities

Source: Bloomberg​

In addition, post‑election November and December are historically very strong months, as investors become relieved with political results and start planning their Christmas purchases. Current year is, of course, not a typical year at all, but if no new economic shocks would happen, pre‑holiday optimism might return this year as well, calming markets and contributing to positive performance for the rest of the year. Hopefully, we would get more clarity in terms of further market movements in the nearest future.

Monthly average performance of global equities (since 1995)

Source: Ned Davis Research

Given absolute uncertainty in relation to how severe COVID‑19 situation would be across the world and how efficiently governments would be able to respond and provide timely economic support, volatility in the markets most likely would remain high. Higher volatility may not only lead to strong and fast moves to the downside, but also to strong and fast moves to the upside. Therefore, it is prudent to remain conservative, patiently executing investment decisions according to the predetermined plan, and keeping the long‑term view in focus.

¹Most likely actual number of cases was still higher in spring, but capacity to register all ill persons was limited at that time
²At the moment of writing results were still not officially announced, but Trump victory became highly improbable
³Key battleground state which determined final elections result