Investors of all stripes are trying to handicap the outcome of the US presidential election, now only 35 days away. Every day we are bombarded with articles advising us how to prepare for a potential Biden presidency, protect portfolios in the event of a contested election, or take advantage of stocks that are sure to “rocket higher” if Trump wins. But this flood of advice misses the bigger point, and only serves to contribute to the anxiety and skittishness of market participants thoroughly confused by everything that has already happened in 2020.
The history of election-season markets is for them to display a bold sense of confidence through the midyear, and then gradually decline as election day approaches and apprehension builds over the outcome. This year seems to be playing out according to this seasonal tendency, and recent indications imply that the downtrend into election day may be more pronounced than usual.
The support of this view is found in recent bearish signals in two key long-term indicators. First, the NYSE advance/decline (A/D) line has given a sell signal for the week ended September 25. The A/D line measures the cumulative difference in the number of stocks going up in price on a given day minus the number going down in price. It has a distinct advantage over the well-known indexes. Unlike the bias introduced by the weighting schemes of the popular indexes, which are weighted by company market capitalization, the A/D line gives each stock a single “vote” in the tally. Thus, this equally-weighted format allows investors to better understand what is going on under the surface of the market, without the distortions brought about by the movements of the largest stocks (e.g. Apple, Microsoft, or Amazon). In sustainable uptrends, the A/D line will be rising, as the popular large stocks and lesser known ones rise together. But down trends in the A/D line, and especially bear confirmed signals such as we have today, indicate that the vast majority of stocks are closing lower in price day after day. In Wall Street’s parlance, the “generals” are leading, but the “soldiers” are not following.
The bearish A/D line has had further confirmation from the bear confirmed signal given by our old friend, the NYSE Bullish %. The NYSE Bullish % measures the percentage of stocks in that index that are on point-and-figure buy signals. It has the advantage of revealing what IS happening, not what SHOULD happen. As more and more stocks give buy signals, this percentage will rise. Conversely, as more stocks give sell signals, the Bullish % will fall, and if that trend persists the Bullish % will eventually give a sell signal. This is exactly what has happened and has coincided with the sell of the A/D line. What’s more, the Bullish %s for the NASDAQ 100, S&P 500, and the small and mid-cap indexes have also moved to bear confirmed status at the same time.
Both these indicators are long-term, aircraft carrier type measures—it takes a lot to turn them around, and they tend to persist in one direction once they do turn. Thus, the message being telegraphed to investors is to expect a down-trending stock market for at least the month ahead. With investor psychology still overly bullish (witness the eagerness with which the “buy-the-dips” crowd has returned in recent days) and the VIX (aka “fear gauge”) still rising, we expect most measures to get to “oversold” levels by the time of election day.
Our expectations are bolstered by the fact that Wall Street is unlikely to get a boost from either its favorite savior, the Federal Reserve, or Congress. The Fed had essentially doubled its balance sheet to $7 trillion in the spring as covid-related shutdowns took their toll on the business community. A surprisingly paltry amount of this money went to Main Street, but much of it went into the hands of financial firms that helped fuel the dramatic rally during the summer. But since mid-spring, Federal Reserve stimulus has been dormant, with the balance sheet showing virtually no increase since late May. The Fed clearly decided to front-load their monetary stimulus during the shutdown, and then see how things progressed in the second half of the year. Wall Street, which like a spendthrift relative, has become dependent on Fed bailouts, is slowly coming to grips with the reality that no more money is coming its way. With only the quaint fundamental factors such as earnings (weak), revenues (weak), and consumer spending (weak) to serve as catalysts to drive stock prices higher, investors realize they have probably paid too much for today’s growth darlings and may mark them down in price as the election nears.
Finally, and perhaps most worrisome, is that there is no federal pandemic aid package in sight. The first aid package provided in March kept many businesses clinging to life, and kept employees on the payroll. But those funds have either been exhausted, or found few takers due to the conditions of the loans demanded by the US Treasury. Despite recent pleas from Fed chairman Powell for fiscal relief, the face-off between rival political parties has ensured that nothing will be done before the election.
Congress is facing three different events that have removed the focus from additional financial support for the economy. First, with the election fast approaching, neither party in Congress wants to pass a fiscal support bill that may help the other Presidential candidate. The dueling bills between the House and Senate currently may therefore be more for show than substance.
The sharp rebound in many economic indicators may also have lulled legislators into a sense of complacency, as the worst fears over the covid-induced recession have been allayed. But a substantial portion of the rebound can be traced back to federal aid programs that allowed many businesses to hold on until the economy recovered. That recovery seems to have stalled, as initial unemployment claims continue to clock in at about 850,000 new claims per week, and have remained at that level for about eight weeks.
Second, September ends the federal government’s 2020 fiscal year. As such, it requires either a “budget,” or another Continuing Resolution to fund the government and avoid another shutdown. This has actually recently been resolved, with a deal to fund the government through December.
Last, the death of Ruth Bader Ginsburg will have the entire Democratic Party, which controls the House, focused on how to stop President Trump from nominating a replacement before the election. Of course, all Trump needs is a simple majority in the Senate to confirm a justice, which he is likely to get. With the new urgency to confirm a supreme court justice before the election, and the time needed for confirmation hearings, the full attention of Congress with be distracted from getting any pandemic relief bill negotiated. As one senator said, the supreme court hearings will “suck all the oxygen out of the room” that might have been available to get an aid package in place before November 3rd.
Finally, there is the election itself that may keep markets off balance. It may not be the outcome that is causing trepidation among investors, but the growing sense that results of the election will not be decided on November 3rd. With an expected surge in mail-in votes, expected long delays with in-person voting, and the jockeying over which votes “count,” it could be days or even weeks before the final result is known. Moreover, even if the result is known quickly, President Trump has virtually promised to contest the results as rigged or fraudulent if he ends up on the losing side.
The bearish signals from the NYSE A/D line and NYSE Bullish % imply that election season nerves are prompting broad selling, and that present conditions do not justify taking an aggressive investment stance. Investors should keep a healthy amount of cash, bonds, and conservative securities on hand that can be used for reinvestment once today’s uncertainties are behind us.