Thursday, October 29, 2020 | 9:00 am ET
There is less than a week until Election Day and more than 70 million Americans have already cast their vote. Democratic candidate and former Vice President Joe Biden still commands a lead in both national polls and in key swing states. However, that lead has narrowed in recent days, with President Donald Trump gaining some momentum.
If 2016 is any guide, the race isn’t over ’til it’s over. Given the significant increase in mail-in ballots due to the COVID-19 pandemic, it is possible that Americans will not know the result on Election Day and perhaps not for several days – or even weeks – after. To the extent there is no clear winner on Nov. 3, the added time required to count these ballots will add another element of uncertainty for both investors and markets, and raises the potential for a contested election.
As we round the final lap of the 2020 presidential race, let’s explore the possible election outcomes and their market implications. We want to remind investors that while it’s important to be aware of potential policy changes that could impact their wealth and take steps to plan where possible, it’s also important to avoid overreacting to the election outcome.
Possible Election Outcomes
While the latest betting odds show a Biden win, what policies ultimately get passed into law depend on the makeup of Congress. Currently, there is a greater chance of the Democrats controlling both the Senate and the House of Representatives, or a so-called “blue wave.”
A “blue wave” could result in the most significant policy shift, opening the door to possibly more fiscal spending on infrastructure, clean energy and expanded healthcare. With that comes the potential for sweeping tax changes. While this scenario raises the most concern among investors, equity markets until this week seemed to be taking this in stride. In addition to the higher number of COVID-19 cases, the tighter race and higher probability of a contested election is leading market participants to once again question the chances of a large fiscal stimulus package under the blue wave scenario.
Should the election result in a blue wave, equities may react negatively at first but could fare well over a longer time period. On a sector level, managed care, renewable energy and construction are likely to benefit from this outcome, as they are a central focus of Biden’s policy platform. A blue wave may also impact interest rates and inflation. While short-term interest rates are anchored given the Federal Reserve’s accommodative policy, longer-term interest rates and inflation expectations could rise slightly given a greater focus on additional rounds of fiscal stimulus. This support, along with a potentially higher tax environment, should help municipal bonds outperform.
If the Republicans retain the majority in the Senate, and Biden becomes president, the policy focus will remain similar, although changes may be limited under a divided government. In this scenario, the equity market reaction may be modestly positive, as we believe markets will welcome the checks and balances of a divided government.
If President Trump wins a second term, a status quo result where control of Congress remains divided is most likely. Under this scenario we could see a continuation of Trump’s pro-growth policies, bilateral trade agreements including his “tough on China” policy and a continuation of current or lower tax rates. Fiscal policy that supports the economic recovery would eventually get passed but likely be smaller than under a blue wave. This outcome could be positive for equity markets.
Impact of Mail-in Ballots
Of the 76 million plus votes already cast, approximately 50 million, or 66%, are estimated to be mail-in votes. To put this in context, in 2016, 140 million total ballots were cast, out of an eligible voter population of 214 million1. Over 41% of votes were cast before Election Day; 17% (23.8 million) by in-person early voting and just under 24% (33.6 million) through mail-in ballots. With under a week to go until the election, mail-in ballots in 2020 have exceeded the total number of mail-in ballots cast in 2016.
Anecdotal evidence suggests that a greater proportion of those electing to vote by mail are Democrats, with Republicans more likely to vote in person on Election Day. This opens up the possibility that in states with a very close result, Trump could be ahead in the count on Nov. 3, only for that result to change and Biden be declared the winner as mail-in ballots are counted.
While every state permits mail-in ballots, we want to focus on the process followed by the swing states, plus some others where either polls are very close or the state moved meaningfully to the right or left in 2016. In our opinion, the key states to watch are: Arizona, Florida, Georgia, Iowa, Michigan, Minnesota, Nevada, North Carolina, Ohio, Pennsylvania, Texas and Wisconsin. These states account for 195 Electoral College votes.
While Texas is not traditionally considered a battleground state, the latest polls conducted by FiveThirtyEight Research show Trump and Biden on almost equal footing. If the 38 Electoral College votes were to go to Biden, the trajectory of the entire race could change. Texas will only count mail-in ballots that arrive by 5 p.m. on Nov. 4, which means results could be known in a reasonably timely way.
Of all the states we deem critical, Arizona, Florida, Georgia, Michigan and Wisconsin do not permit mail-in ballots received after Election Day to be counted, as illustrated in Exhibit 1 below. These states account for 82 Electoral College votes. Remember that Florida is one of the few states that permits ballots to be counted prior to Election Day.
Exhibit 1: Last Date Mail-In Ballots Can Be Accepted
The states whose deadlines move into the following week – and therefore where longer delays of the final result are possible – account for 49 Electoral College votes. That group is comprised of Iowa, Minnesota, North Carolina and Ohio. We hope to have a clear winner before then.
According to federal law, each state has until Dec. 8 to resolve any “controversy or contest” about the appointment of its electors under state laws. This is the “safe harbor” date, which is six days before the electors of the Electoral College meet on Dec. 14 to formally cast their vote for president and vice president. The electors’ votes are delivered to the sitting vice president (in his capacity as president of the Senate) and some additional officials by Dec. 23. The most likely involvement of the Supreme Court in this process would be to terminate recounts to ensure a state’s result is available by Dec. 8, as occurred in the Bush vs. Gore election in 2000.
If a state can’t determine the result by Dec. 8, one of two things could happen:
- The state could fail to appoint electors, in which case those electors would be absent from the Electoral College. This would then raise the question of whether the winner of the election is still required to have 270 Electoral College votes, or simply a majority of the votes of the electors present, as those present would be fewer than 538.
- The state certifies competing boards of electors — one from the governor and one from the legislature. This situation would have to be resolved by the courts, and could ultimately end up with the Supreme Court, with a ruling required before Dec. 14.
Action vs. Overreaction
Elections can often bring about market volatility and emotion. Throughout this election season we have been advising investors to act but not overreact. Investment decisions driven solely by anticipated election outcomes or political views could prove costly. Instead, it is best to stick with a long-term investment strategy aligned with your goals.
Still it is important to recognize that potential policy changes, such as tax changes, could impact your wealth. Biden has proposed increasing ordinary income tax rates for high earners and corporations as well as increasing capital gains and dividend tax rates. A Democratic sweep likely could have a tremendous impact on estate planning, including:
- A lowering of the current $23.16 million exemption amount per couple to $7 million.
- An increase in the 40% estate, gift and generation-skipping transfer tax rate back to the historical norm of 55% to 77%.
- An elimination of the step-up in basis at death (proposed by both Biden and Trump as well as former President Barack Obama).
- A possible elimination of discounts related to transfers of closely held business interests between family members (which was included in proposed Treasury regulations that were withdrawn pursuant to a Trump executive order).
Rather than panic about these potential tax changes, we have been advising investors to plan ahead. For example, in an environment of potentially higher taxes, investors should take advantage of tax-managed equity strategies that work to both minimize net gains and actively harvest losses to help maximize after-tax returns. Also, an investor who was already thinking about selling a closely held business or concentrated equity position this year may want to go ahead with that sale in order to lock in the current capital gains tax rate. Finally, it may be prudent to plan for your heirs by using the federal estate/gift exclusion in 2020 before a potential reduction in 2021, especially by gifting to trusts for additional tax and asset protection benefits. If a married couple doesn’t want to make a gift currently to heirs but still wants access to those funds, consider transferring assets to a spousal lifetime access trust. All of this advice should prove valuable regardless of whether or not any tax changes actually take place.
At BNY Mellon Wealth Management, we believe that the key to creating and sustaining wealth is our Active Wealth philosophy across five key practices: investing to maximize compounding; borrowing strategically; spending dynamically; managing taxes; and protecting legacy. Regardless of who wins the election, the advice we provide should help ensure that you are positioned to navigate this election season while staying aligned to reach your long-term goals.