Post Election Markets

Why Did the Market Rise Post-Election?

Historically, markets tend to react more to uncertainties and resolutions than to specific political outcomes. Although markets are inherently nonpartisan, uncertainty around policies—like potential changes in corporate tax rates or trade tariffs—can introduce volatility. Leading up to the recent presidential election, many Americans worried about a prolonged period of counting votes and potentially contentious results, especially given the close margins in certain key races. However, election results were delivered more swiftly and decisively than expected, particularly for the presidential and Senate races.

With a clear outcome, some policy uncertainties were removed from the market’s perspective. For instance, under one potential outcome, corporate tax hikes may have been anticipated, while another outcome suggested more focus on tariff-related policies. The market’s positive reaction may stem from the removal of these uncertainties rather than any political leaning.

Bond Market Signals: Cause for Concern or Reason for Optimism?

Much discussion has centered around the bond market, particularly regarding the movement of long-term interest rates. Despite the Federal Reserve’s rate cuts, long-term rates, such as the 10-year Treasury yield, have been trending upward. This divergence can signal investor concerns about rising borrowing costs and their potential to counteract the benefits of Fed rate cuts.

However, history may offer some comfort. Analysis shows that in previous periods since 1962, when the Fed has cut rates while the 10-year Treasury yield rose, the S&P 500 has generally delivered strong returns. This seemingly paradoxical result arises because higher long-term rates are often associated with a growing economy. Current indicators, such as corporate earnings and indexes of leading economic indicators, suggest that growth remains robust. Thus, the upward movement in long-term

rates may simply be a reflection of anticipated growth rather than a negative market signal.Rising long-term rates can also indicate optimism for long-term growth. When higher yields on long-term debt coincide with economic growth signals, the stock market historically tends to perform well. Although past performance is no guarantee of future results, the fact that the S&P 500 has risen in 97% of similar periods bodes well for investors.

Potential Investment Opportunities: Small Caps and Financials

As the market looks forward to potential policy changes from the incoming administration, certain sectors and market segments may present attractive investment opportunities. Although policy often influences short-term market moves, investors should be wary of over-relying on policy predictions alone. Notably, sectors like health care and clean energy have shown that betting too heavily on policy-related themes can sometimes lead to missed opportunities or underwhelming performance.

However, two segments currently present strong setups for growth: small-cap stocks and financials.

Small Caps

Small-cap stocks have significantly lagged large-cap tech stocks in recent years. Historically, small caps are more responsive to economic growth, which could be advantageous in the current growth-friendly environment. Additionally, these stocks tend to react favorably to Fed rate cuts, which can lower borrowing costs for smaller companies. Small caps also show a high level of investor caution, as evidenced by valuation spreads—indicating that these stocks may have room to rise even without major policy shifts.

Furthermore, small caps are more sensitive to potential corporate tax policy changes than their large-cap counterparts. The recent removal of tax uncertainty could position small caps for substantial gains.

Financials

The financial sector also presents a compelling investment case. Financial stocks have been undervalued for some time, with their low prices reflecting high levels of investor skepticism. Historically, valuation alone does not always signal outperformance in all sectors, but for financials, low valuations often correlate with strong returns. Additionally, potential lighter regulatory policies for banks and other financial institutions may improve profit potential, adding to the attractiveness of the sector.

Both small caps and financials saw a bump in the wake of the election, but the underlying conditions suggest that they may have additional room to grow.

Conclusion

While the market’s post-election performance has been strong, investors must approach with caution and careful analysis. History suggests that periods of rising long-term interest rates, paired with economic growth indicators, have historically been favorable for stock market returns. As for investment strategies, small caps and financials may offer opportunistic setups, potentially poised to benefit from both economic growth and policy developments.