Navigating Market Reactions to the News Cycle

Financial markets can be sensitive to news cycles, but our Global Head of Fixed Income and Thematic Research offers a word of caution about reacting to recent headlines about the US presidential election.

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Welcome to Thoughts on the Market. I'm Michael Zezas, Morgan Stanley's Global Head of Fixed Income and Thematic Research. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about development in the upcoming US elections.

It's Wednesday, July 17th at 10:30am in New York.

Financial markets are starting to reflect the possibility of a Trump presidency. Investors may be taking cues from a few current developments. There’s the recent weakening of President Biden’s polling numbers in key swing states such as Pennsylvania, Michigan and Wisconsin. There’s also the ongoing discussion about whether he will remain the Democratic nominee. And there's also former President Trump’s increased win probabilities in prediction markets, as well as the perception that Democrats will have more trouble pursuing their agenda in the wake of the assassination attempt against him.

To that end we’ve seen moves in key areas of markets sensitive to what we have argued will be the policy impacts of a Trump presidency, including a steepening of the US Treasury yield curve. But – a word of caution. These market reactions to recent political events may be rational, but it's not clear they’re sustainable.

First, there are plausible ways investors’ perceptions of the likely outcomes of this election could shift. Voters can have very short memories, resulting in polls shifting to partisan priors. This happened with popular opinion on elected officials following notable incidents in recent years – such as the events of January 6th, 2021, the US withdrawal from Afghanistan, and more. Also, if President Biden were to withdraw as a candidate, it’s possible investors could perceive that a different candidate could tighten the race. For example, there have been recent surveys showing alternate Democratic candidates polling better than President Biden.

Second, there’s also room for investors to misunderstand the policy path that could follow an election outcome as well as the impact of that path. For example, we’ve seen some recent press articles linking the broadening out of positive performance in the equity market to the likelihood of a Trump win on perceived benefits of friendlier tax policies that might result from this outcome. But if investors only focus on that policy, they’re not incorporating the potential offsetting effects that could come from policies that could challenge the economic growth outlook, such as higher tariffs – something former President Trump has advocated for.

So bottom line, it makes sense to interrogate what seems like clear links between the upcoming election and markets.Some linkages are strong, and it’s possible that will make for a good investment strategy; others are weak and may break under scrutiny. We’ll help you sort it out here.

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