Gridlock is good Gridlock is good\images\insights\article\traffic-atlanta-small.jpg November 5 2020 November 5 2020

Gridlock is good

More favorable risk environment prompts an increase in our equity overweight. 

Published November 5 2020
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Stock-bond model changes
  • Equity overweight increased from 2% to 3% (30% of maximum overweight).
  • Addition goes to large-cap value, raising it from neutral to a 1% overweight.
  • Cash reduced from 1% overweight to neutral.

Bottom line In the immediate wake of the election results, the Federated Hermes’ PRISM® asset allocation committee has voted to raise the equity overweight in its moderate growth portfolio from 2% to 3%, lifting the overall allocation to equities in the stock-bond model to 57% vs. a neutral 54%. The increase went to domestic large-cap value stocks, which moved from neutral to a 1% overweight allocation, and was funded with cash, lowering the easy-to-deploy asset class from a 1% overweight to neutral.

Blue Wave jitters off the table We believe the nearly 9% decline in the S&P 500 from Oct. 12 through Oct. 30 was driven by investors pricing in the prospect of a “Blue Wave.” A  big Biden win coupled with a sweep of both houses of Congress would have provided Democrats with a consolidated legislative mandate, which likely would have resulted in a progressive, market-unfriendly fiscal policy regime shift. But President Trump performed much better than the double-digit Biden win that the national polls had suggested. While Biden may still be the victor, it’s shaping up as a dog fight, with recounts and litigation likely in a half-dozen key swing states and a narrow margin for whoever ultimately prevails. 

Senate control rules Of perhaps equal importance to who wins the presidency is that majority control of the Senate apparently will remain in Republican hands. Looking at the six (out of 35) Senate races that we believed would decide control of the upper chamber, Republicans offset expected losses in Colorado (Cory Gardner) and Arizona (Martha McSally) with an expected flip in Alabama (Tom Tuberville) and a surprising hold in Maine (Susan Collins). A possible flip in Michigan (John James) and a hold in North Carolina (Tom Tillis) are too close to call at present.

With a legislative check-and-balance in Congress, the risk of sharply higher taxes and regulations under a possible Biden administration are now off the table. The S&P has rallied by more than 7% since last Friday and is up again today in morning trading as investors are realizing that with the increasing odds of the Senate remaining in Republican control, congressional gridlock is good. We get to keep Trump’s low taxes and deregulation, and pair them with more fiscal stimulus and infrastructure spending under Biden.

Favorable outlook for 2021 As we look across the proverbial valley into calendar 2021, there are several fundamental positives for investors:

  • Inauguration Day By Jan. 20, 2021, we’ll know with certainty the identity of the president and the makeup of Congress, and the noise and nonsense of the most contentious election in history will finally be behind us.
  • Easy comparison We plunged into the deepest recession in history in February, so the year-over-year comparisons for economic and corporate profit growth will be very easy for at least the first half of next year.
  • Vaccine availability Of the 100 pharmaceutical and biotechnology companies that have been working on a coronavirus vaccine this year, six are in Phase 3 human clinical trials and are awaiting FDA approval. We expect at least one of them to be approved by year-end 2020 for limited emergency use, and we expect that several of them will be approved over the course of next year. Consequently, we expect to get a better grip on Covid as we approach midyear 2021, which will allow greater confidence among Americans and a trend toward normalizing economic activity in next year’s second half.
  • Whither the NBER? We believe the recession ended in May or June, and we’re patiently awaiting the National Bureau of Economic Analysis (NBER) to date its end shortly. That will provide business owners with great confidence and motivation to begin to expand activities and re-hire more workers.
  • Fed zero-bound Federal Reserve Chair Jerome Powell cut the fed funds rates to zero at two emergency meetings in March, and the Fed has projected that it will keep rates anchored at zero through at least the end of calendar 2023.
  • “TINA” With interest rates stuck at zero for the next three years, there is no alternative (TINA), other than stocks, for investors looking to generate total investment returns.
  • Upside surprise Our year-end price targets for the S&P are at 3,500 for 2020 and 3,800 for 2021. But with the diminished risk of damaging fiscal policies and higher inflation under a Blue Wave, our revenue and profit estimates and price-earnings multiple assumptions for stocks may have upside to them.

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Tags Politics . Equity . Active Management .

Views are as of the date above and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector.

Diversification and asset allocation do not assure a profit nor protect against loss.

PRISM® is a registered trademark of FII Holdings, Inc., a subsidiary of Federated Hermes, Inc.

S&P 500 Index: An unmanaged capitalization-weighted index of 500 stocks designated to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries. Indexes are unmanaged and investments cannot be made in an index.

Stocks are subject to risks and fluctuate in value.

Value stocks tend to have higher dividends and thus have a higher income-related component in their total return than growth stocks. Value stocks also may lag growth stocks in performance at times, particularly in late stages of a market advance.

Federated Advisory Services Company