Risk appetite and upcoming midterm elections
After a horrible period in the first two months of autumn, the improvement in risk appetite is remarkable in the early days of November. It depends heavily on U.S. President Donald Trump’s attitude to trade wars and an agreement with China. An end to trade wars is likely to boost expectations for world growth and open up demand for risky assets. In this environment, high-yield assets are likely to find support and some of the inflow that boosted the greenback in the spring may be reversed.
By the way, the upcoming U.S. midterm elections may halt risk appetite in the markets as well. The midterm elections may pose a challenge for investor confidence at a time when U.S. stocks have been on their longest ever bull run, that is, well into its tenth year. Currently, the Republicans control both the House and the Senate. They hold 240 seats in the House compared with 195 for the Democrats, with 218 needed for a majority. The Democrats need to flip 23 seats to take back the House. In the Senate, the Republicans hold 51 seats compared with 49 for the Democrats. Fifty-one seats are needed for control of Senate. To take back the Senate, the Democrats need to defend their existing 26 seats and win two more from the Republicans. The election will decide if the Republicans remain in control of Congress and therefore the legislative process. Betting odds suggest that there is a 66 percent chance of the Democrats taking control of the House while the Republicans appear to have an 80 percent probability of retaining the Senate. These odds reflect many factors such as the tendency for the incumbent president to see his party perform relatively poorly in the midterms, which could give the majority to the Democrats in the House.
What happens if the Republicans lose the House? With U.S. as- sets, such as stocks, performing very well in the wake of Trump’s surprising win back in November 2016, we’d have to conclude that this market might not be so enthused should the Republicans lose the House, even if that’s the general expectation. The President has plans to push more legislation through Congress, such as tax cuts, and if this is going to be thwarted by the Democrats the stock market might be weaker as a result – and the dollar could follow suit as well. For a while, a divided Congress might fail to pass new tax cut legislation. There must also be a concern that it will be equally impotent when it comes to supporting tax revenue through fiscal tightening in the future.