What’s Going On Here?Democrats won control of the US Senate late on Wednesday, securing them both chambers of Congress and a blank check to support the economy however they like. What Does This Mean?One of the main assumptions investors are making is that Democratic control has paved the way for a big economic boost over the next few months – first through another coronavirus aid package, and eventually through more spending on infrastructure, education, and clean energy (tweet this). All this money flowing into the economy should be good news for stocks, which now have more economic and earnings growth to look forward to. And while the money needs to come from somewhere, investors seem optimistic that it won’t be from profit-damaging tax hikes – if only thanks to the Democrats’ razor-thin and precarious majority. Why Should I Care?For markets: It’s cyclicals’ time to shine.
The stocks that stand to benefit most from the newfound economic support are those of energy, materials, and industrial companies – that is, “cyclicals” sensitive to economic peaks and troughs. Banks – which have outperformed the US stock market since the presidential election – could keep doing well too: investors reckon the government will borrow more to cover its increased costs, which should in turn push up interest rates. The US Federal Reserve, meanwhile, is keeping its short-term interest rates – the rates at which it lends commercial banks money – low. That allows those banks to lend money at a higher rate than they spend on borrowing it, and should boost their profits.
The bigger picture: Everything in moderation.
The anticipation of more government spending and a boost to economic growth is also raising expectations that the prices of goods and services will increase (i.e. inflation). But if prices climb by too much, too quickly, central banks might hike interest rates to cool things down. And that could discourage companies from taking out loans and spending money – the exact opposite of what the higher-ups are trying to achieve. | 