Now that the mid-terms are over, both sides of the aisle will be immersed into grid-lock and more dirty politics. As much as this may seem negative, the markets historically react positively to grid-lock. According to Fox News, in the past 49 years, after mid-term elections, the stock markets have risen every year following the mid-terms.
A split of Congress was widely predicted going into the U.S. mid-term elections Tuesday. As expected, the Democrats gained control of the House of Representatives while the Republicans maintained their slim majority in the Senate.
The split was so expected that Wall Street had already priced it in as the most likely result. Asian shares erased losses to eke out small gains on Wednesday, while European markets rallied and both U.S. and Canadian stocks are strongly up today.
In this scenario, the divide in Congress may lead to policy “gridlock” in the coming months. Gridlock has been historically positive for markets and equity markets may undergo their usual post-election rally.
Investors can expect Trump to continue to take a hard line on tariffs, which he can impose without Congressional approval. That keeps alive worries about a trade war between China and the United States.
However, without control of both houses, the Trump tax cuts can’t be rolled back by the Democrats, which markets will be happy about, but investors shouldn’t expect a second round of tax cuts that Trump was musing about either.
Seeing the two parties work together through the next two years of Trump’s term will be rare, but Trump is widely expected to work with the Democrats in the House on a new infrastructure bill projected to be in the range of US $1 trillion to US$1.5 trillion. This would help industrials and materials stocks. An infrastructure deal of that magnitude could add 0.2% to U.S. growth in 2020, allowing growth to reach 1.8%.
This type of deficit spending will only push bond yields higher though. Trump's initial tax cut, enacted in December, and a spending agreement reached in February, have helped lift the U.S. economy but they have also widened the U.S. federal budget deficit. As a result, Treasury supply has been growing, pushing U.S. bond yields higher. The 10-year U.S. Treasuries yield rose to 3.224%, near its seven-year high of 3.261% touched a month ago, as investors sold ahead of this week's record amounts of longer-dated government debt supply.
Where uncertainty may creep back into investors’ minds will be in January when the new House sits for the first time. That’s when the whispers about Democrats potentially moving to impeach Trump could begin.
Party leaders have been silent on the possibility on the campaign trail, focusing instead on investigating the president in connection with Russian meddling in the 2016 election.
Under a split Congress scenario, it’s unlikely impeachment would result in a conviction in the Senate because it would require two-thirds of the Republican-dominated Senate to vote in favour. Even if the process goes now here, markets would be volatile due to headline risk.
Summary
There was no real loser, despite what media says. Trump is still President, Republicans own the Senate, which means two thirds of government control in Republican hands (President + Senate). Democrats own House, which means they can slow legislation, but they only hold one-third of power, enough to restrict certain policies.