Stocks are rallying toward fresh record highs as investors cheer the weekend’s news regarding progress on a Covid-19 vaccine. This comes on top of last week’s rally that occurred despite the delayed and uncertain election results for both the White House and Senate.
It appears likely the Republicans will retain the Senate, although it won’t be known for sure until Georgia’s runoff elections take place in January for both of its Senate seats. This was enough to boost stocks as investors expect a divided Congress to limit drastic changes in economic policy. The rationale is that regardless of who is President, it will be very difficult to pass meaningful legislation without bipartisan support.
Oddly enough, this meant that the market rallied even while the presidential outcome was unclear. Joe Biden was declared the winner over the weekend, and while Donald Trump has not conceded it appears unlikely that any of the legal challenges will overturn the outcome. Either way, the likelihood of a divided Congress was enough fuel for the market surge.
In a recent blog we stressed the importance of maintaining a steady hand before and after the election. We wrote that historically the stock market trends upward regardless of which party holds the White House and Congress. We urged readers to avoid making knee-jerk financial decisions which could permanently damage a financial plan. This is timely wisdom given the lack of clarity in the wake of last week. The vaccine developments serve as a further reminder that there are often more significant drivers of market behavior than just politics.
What’s Next for the Economy and Markets?
With the likelihood of divided government and limited policy shifts, attention has shifted back to the virus. Cases in the U.S. and several other countries have been on a worrisome rise, and in Europe some governments have increased restrictions on business and travel. In the U.S. it seems there is little appetite for the draconian measures implemented in the spring. But even partial measures or voluntary consumer behavior changes are likely to stifle growth at a time when economies are just regaining their footing. This has put the focus again squarely on the virus and its impact on earnings and growth heading into 2021.
Corporate earnings in most areas of the economy have rebounded since the shutdowns in the spring. And while there are many still out of work, the labor market has healed significantly from when millions lost their job as a result of the lockdowns. A vaccine could pave the way for the recovery to continue and likely accelerate growth, hence the market surge in the wake of the announcements of progress.
In the meantime, investors are also watching the possibility of another stimulus package. While a divided Congress and a White House in transition reduces the probability of a package before January, it’s possible that early in 2021 there would be another round of relief to businesses and individuals struggling to survive the pandemic.
The Federal Reserve has vocalized its view of the importance of another package from Congress, while also reaffirming its commitment to do what it can to support the economy. It has made clear there is little chance it would raise interest rates any time soon, and its other support mechanisms remain in place.
Short-Term and Long-Term Implications
Historically, government stimulus has boosted the economy and markets in the short-term. In times of crisis government intervention may serve to mitigate the damage, but it comes at a cost. The enormous amounts of stimulus will need to be funded by some combination of additional debt, budget deficits, and higher taxes.
While it may support a stronger than expected earnings recovery and potentially higher stock markets in 2021, it could also lead to a negative impact on future economic growth, interest rates, and potentially inflation.
As detailed in our wealth planning forum (which you can view here), this deficit spending means the current tax rates could be more favorable than those in the years ahead. As a result, we continue to evaluate tax strategies related to retirement income, capital gains, charitable giving, Roth IRAs, estate planning, and more.
Focusing on What We Can Control
While it’s important to be mindful of shifts in government policy, we think it is even more important to execute on what we can control to positively impact our lives and the lives of our families. Our advice has much less to do with who is in Washington D.C. and much more to do with what steps we can take to successfully navigate the ever-changing economic, market, and policy landscape.