Q3 2020 Market Update: Political Parties, the Economy, and Financial Markets

We are all riveted by COVID-19 and by the presidential election. Nothing else seems to matter. We claim no insight on either, but as investors who respect history and who relish debunking conventional wisdom and market myths, we would like to address one politically timely economic and market myth—that Democrats are worse for the economy and for the stock market than Republicans. For four years, we have heard Donald Trump claim that he has created the “best economy ever.” What do the facts say about that – and about prior administrations of both parties?

For decades, Republicans have claimed to be the “pro-business” party, with obvious benefits for the economy and for investors. Democrats supposedly were the “tax and spend” party that favored Big Government programs, heavy regulation, and unfairly taxing the “job creators.”

Yet it was the Democrats who, after the enormous deficits under Ronald Reagan, endorsed “PAYGO” – pay-as-you-go federal budgeting – in the 1990s, where spending on any new program had to be offset by cuts elsewhere in the budget. More recently, under President Obama, Republicans railed against federal spending and deficits. His spending to rescue the economy in 2009 was considered profligate, while the record spending under Donald Trump is “stimulative.”

Keep in mind that whether the president is a Democrat or a Republican, they share responsibility for managing the economy with Congress and the Fed. Also, presidents inherit the economic impacts of the policies of the prior administration and Congress, so there is a lag before their policy priorities are reflected in the economy.

As for which is the party of big spenders and reckless deficit creators responsible for the staggering pile of federal debt, it is the Republicans. Since 1960, the annualized growth of federal spending (after adjusting for inflation) has been 1.25% under Democrats and 2.10% under Republicans. The average budget deficit relative to GDP has been 2.25% under Democrats and 3.75% under Republicans:

As for GDP growth, under the Democrats, it has averaged 3.3% annually (after inflation); under Republicans, 2.3%. As for the stock market, the annualized return of the S&P 500 index under Democrats since 1960 has been 10.3%, versus 5.5% under Republicans. Under Trump, economic growth has been only about half of what it was under Obama, and stock market returns have been about the same under both:

You might think that with an incompetent lunatic at 1600 Pennsylvania Avenue, the American West burning, a pandemic still sweeping the globe, and the crumbling edifice of American democracy, the stock market would be in shambles. We think that, underneath, it actually is. The only thing holding it and the economy up is an astounding amount of newly created money by the Federal Reserve that seems to be providing a constant infusion to an ICU patient.

We are, however, confident that whoever occupies the Oval Office next January, it will be a perilous time, not just for the country and our standing in the world, but for the economy and the stock market.

The stock market, by our favorite measure, is more expensive than it has been 99% of the time over the last 90 years. Corporate profits have plummeted, debts are at a record high, and the pandemic has likely inflicted lasting damage not only to the health of many Americans but to economic norms as well.

Future economic (and profit) growth will likely be suppressed by the crushing debt load, an aging population, and stagnant productivity resulting, in part, from a reversal of the globalization of recent years, in which business costs plummeted as a result of global supply chains.

With a level of debt that has become the highest in the world among developed countries, how can the U.S. get out from under it? We wrote recently about Modern Monetary Theory, which argues in part that spending and deficits do not matter as much as economic orthodoxy has said for many decades and that we are in a period where the huge spending by the government is needed and being supported by the Federal Reserve’s buying the government’s debt, rather than relying on investors. We sure hope that the proponents of MMT are right, because otherwise there is no way the government can repay its debts. Unfortunately, the Federal Reserve’s policy of driving interest rates down to close to zero has encouraged businesses to borrow unimaginable amounts of money.

Assuming we can endure the spectacle of the upcoming election and its aftermath, we can then turn to economic and market prospects. We are not optimistic. As we did early this year, before the market plunge in February and March, we advise investors to generally step aside for now and sit on cash (capital gains tax considerations aside), while favoring stocks that are still undervalued in market sectors that historically have been more stable. Our favorites continue to be in telecommunications, consumer staples, real estate (REITs), and health care. We particularly favor foreign stocks.

In the meantime, vote early and check to make sure your friends in the Sunbelt and Midwest are doing the same!