Investors should look to non-US markets for growth because the outcome of the presidential election is looking increasingly uncertain and the superpower’s economic data is weakening, according to Source, one of the largest providers of Exchange Traded Funds (ETFs) in Europe.
Source believes current trends point to the upcoming election producing a split Senate and a House with a lower Republican majority than at present. This would mean a weak Republican Congress, which has historically been associated with poor equity returns when the US has a Republican President and good equity returns when the US has a Democrat president.
Stock markets tend to do better when Presidents are supported throughout their terms by friendly Congresses, with annualised returns of 9.1% over 56 years versus 4.5% over the 16 years when both Houses of Congress were opposed. When support has been lacklustre (perhaps not across both houses and not for the full presidential term), annualised returns have dropped significantly to -4.8% over 48 years.
Analysis by Source shows equities have tended to do better under Democrat Presidents, delivering an annualised 5.1% versus 3.1% under the Republicans but the best returns have occurred when the President is opposed in a weak fashion (12.1% annualised over 24 years). Ronald Reagan and Bill Clinton were good examples of this.
Paul Jackson, Head of Multi-Asset Research at Source, commented: “Looking at the data from as far back as 1881, a democratic candidate would indicate a better performance of US equities over the coming years. However, the US economy feels delicate, with recent job numbers falling well short of expectations. It is clear that whoever is elected faces an uphill battle as far as the equity market is concerned.”
Source believes that social inequality could become an increasingly important factor in equity returns. Households in most countries have borne the brunt of the post-crisis fiscal adjustment, with personal taxation rising and benefits falling while corporate tax rates continue to decline. While rising inequality could be seen as positive for equity markets (better economic incentives and the transfer of income from labour to capital), when it goes too far it is likely to bring about political and economic change that prompts a reversal.
Analysis of the Gini coefficients1 suggests that income inequality in the US is the highest among developed nations and that the steady rise over the last 50 years has continued since the financial crisis, which is not true of all countries. The profit share of US GDP approached post-war highs in 2012 and such heights are usually associated with a subsequent decline in profits: US profits peaked in Q2 2014 and have since declined 8%.
Paul Jackson added: “If US profits do continue to suffer as wages accelerate and the dollar appreciates, it would not be a surprise if US equities stagnate, at best. Source’s 12-month S&P 500 target is 2100 (in line with the current level) and it prefers other equity markets such as Europe and Japan, where the profit cycles are less mature.”