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September 18, 2020

Animal Spirits and the US Election: Will Momentum Stall?

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September 18, 2020

Animal Spirits and the US Election: Will Momentum Stall?


Animal Spirits and the US Election: Will Momentum Stall?

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September 18, 2020


Momentum has been driving markets throughout most of 2020, with market participants losing focus on fundamentals and pushing valuations higher. The pullback at the beginning of September may have broken this momentum, but we will have to wait and see whether it will build once more. A few large stocks now dominate the S&P 5001 , meaning high concentration and stretched valuations in parts of the market. This all points to a market correction and persuades us to hold our cautious positioning.

Many regions across the globe are experiencing a resurgence of COVID-19, just as US politicians appear to falter on providing further stimulus. This, combined with the looming US election which is barely six weeks away, could stoke animal spirits and we could be in for a volatile final quarter. In this piece, we examine these factors which could finally cause the house of cards to fall:


Momentum has run wild

The following charts illustrate how dramatic the momentum has been for US growth stocks and the FAAMG complex, which have seen a substantial re-rating of their P/E multiples since March 2020. However, in our opinion, market exuberance has caused excessive valuations and with momentum so concentrated in a few names, there is increasing risk of a volatility shock. If the market moves back to focusing on fundamentals, the change is unlikely to happen quietly.

Germany’s manufacturing exposure is the highest among EMU countries and is currently benefitting from strong auto export demand

Source: Datastream, MSIM, 2 September 2020. The index performance is provided for illustrative purposes only and is not meant to depict the performance of a specific investment. Past performance is no guarantee of future results.  Forecasts/estimates are based on current market conditions, subject to change, and may not necessarily come to pass. See Disclosure section for index definitions.


US politicians’ appetite for fiscal stimulus may be faltering

One of the key factors which has supported the momentum and the sharp economic recovery since March 2020, has been the enormous fiscal stimulus deployed by governments across the globe. However, in the US it appears that political support for more stimulus is faltering, with the prospect of a package being agreed before the election fading fast. Whilst consumption has until now been increasing2, the expiration of the extra $600 per week unemployment payment from the CARES Act3 at the end of July and the closure of applications for the Paycheck Protection Program4 at the beginning of August, is bound to start impacting the economy.

US election: Elephants versus Donkeys

The US Presidential election is another potential catalyst for market volatility. Our base case is that Democratic Presidential Nominee Joe Biden will win and the polls support this. However, we acknowledge that polls have not always been accurate in the past and President Trump does have a reputation for being the “comeback kid”. We believe that volatility is likely to come, not solely from the policies of the winner of the election, but the uncertainty of outcome. If Biden does win, but the election results are to be close, it is unlikely that President Trump would concede defeat easily, which could cause a great deal of market volatility.

Besides this, overall a Biden win could be positive for markets given his reputation for being predictable, which could provide some stability. The Democratic Presidential Nominee could also be positive for foreign relations as he is likely to take a different approach from President Trump, especially with respect to China, but the policy direction towards China should remain hawkish. In addition, Biden’s policy agenda includes fiscal stimulus such as infrastructure spending on renewable energy and he has an aim of achieving a Carbon Pollution-Free Power Sector by 20355. This would of course be negative though for the oil and gas industry.

There are also some potential market negatives under a Biden administration such as tax rises, though they do not appear at present to be extreme5. Biden is proposing to increase corporation tax to 28%. However, this is likely to be a longer term goal and he is unlikely to unwind President Trump’s tax bill6 if the economy is struggling. Our initial analysis suggests that the total corporate tax plan could lead to a 7% - 10% reduction in S&P 500 profits. However, markets could experience a shock from an increase in regulations and a revamp in anti-trust rules, particularly for market favourites such as technology companies.

Dovish Fed remains supportive, but what does this mean for inflation?

The Federal Reserve (the Fed) has certainly played its part in supporting the economy. In the past the Fed has acted in anticipation of a rise in inflation. However, in support of markets the Fed recently announced a significant philosophical shift in how they determine policy. The new Average Inflation Targeting (AIT) framework7 would allow higher inflation during recovery periods. US inflation has been more resilient than expected, but in line with this change in the monetary policy framework, the Fed has not responded to expectations of rising inflation. Rather they have remained dovish and assured markets that they will continue to be accommodating, helping to anchor the volatility. In their update7 they announced that their target inflation is an average of 2% over time, meaning that after periods of low inflation (below 2%), they would allow inflation moderately above this for a period6. We expect core inflation to move back towards 2% over the next 12 months. However, there is a longer-term risk that inflation will rise due to excess reserves.

Investment positioning as animal spirits awaken

Investors’ animal spirits may be beginning to wake up to the fact that the momentum driving the market cannot continue forever. This is given the underlying fundamentals, the severity of the economic backdrop and an apparent lack of appetite on the part of US politicians to continue to deploy stimulus, which means we will not receive the same scale of support we have seen. With what many anticipate will be a contentious US election battle and an incumbent President unlikely to concede a loss, significant volatility could be ahead and we believe this warrants defensive positioning.


1 The FAAMGs (Facebook, Amazon, Apple, Microsoft, and Alphabet's Google) represent the top 5 companies and a total weight of 24% of the S&P 500, as of 15 September 2020.

2 Consumer spending is now at 95.7% of pre-virus levels. Source: Goldman Sachs, Economics Research. US Economic Recovery Tracker: September 11 Update (Walker).

3 The US Coronavirus Aid, Relief, and Economic Security Act, signed 27 March 2020. $2 trillion stimulus package to support the economy due to the impact of COVID-19 pandemic.

4 US Small Businesses Administration. PPP is a loan for small businesses to keep their workers on the payroll.

5 Source: UBS and HSBC Global Research,, MSIM. Data as of 2 September 2020.

6 The Tax Cuts and Jobs Act (TCJA), signed into law 22 December 2017 for the 2018 US tax code.

7 Source: Board of Governors of the Federal Reserve System, press release 27 August 2020, Federal Open Market Committee announces approval of updates to its Statement on Longer-Run Goals and Monetary Policy Strategy



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Managing Director
Global Balanced Risk Control Team
Managing Director
Global Balanced Risk Control Team
Executive Director
Animal Spirits and the US Election: Will Momentum Stall? [Audio]
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Christian Goldsmith shares the GBaR team’s latest market views.


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