Written by: Robert Serenbetz | New York Life Investments
Four investments on edge this election
The election poses a key tipping point for investment strategies – not because politics greatly impact capital markets, but because the policy landscape could experience one of its biggest shifts in decades. Here are four investments we believe may be on the edge this election.
1. The broad market and tax uncertainty
The tax regime under various election scenarios could vary widely. Since taxes impact bottom-line profits (for companies) and incomes (for households), headline risk in the coming weeks is substantial. These tax changes may present headline risk for markets, but also create tremendous opportunities for investors, financial professionals, and active managers. For instance:
- Investors can select investments that reduce capital gains tax burden. Municipal bonds are already attractive given their relative yield and risk; higher taxes may increase investor demand pushing valuations higher.
- Skilled active managers can identify companies likely to pay anticipatory dividends or more resilient to rising tax cost.
- Working with a financial professional to identify ways that personal tax changes impact a financial plan is a necessary first step.
2. Real Assets, and infrastructure
Spending on infrastructure is a bipartisan policy issue, but the path to such spending has been elusive. The Trump administration has not proposed a plan for infrastructure spending. The Biden administration has – in the form of a green new deal – and proposed sizable federal spending on infrastructure, with a focus on climate resilience and alternative energy sources. The direction taken will have implications for sector allocation (oil and gas vs. alternative energy, long-term economic growth, and by extension the U.S. dollar).
Real assets already play an important role in an investor portfolio. Infrastructure companies hold physical assets whose economic lives are typically measured in decades. It can extend to utilities, transportation, and telecommunications. Non-cyclical assets with above average income generation, and a hedge to rising interest rate and inflation, can offer investors defensive risk reward properties and diversification.
As always, there are several factors at play in a strategy’s success, but policy could be a big tailwind. A Democratic majority could make such a tailwind even more likely, with important impacts for investors.
3. ESG and the environment
Investment strategies that incorporate ESG metrics have gained significant popularity in the United States this year. We believe this trend will continue, but nevertheless the electoral outcomes pose a significant tipping point for policy and investment opportunities around ESG strategies. A Democratic sweep would likely shift the regulatory environment away from carbon assets toward cleaner sources of energy. Moreover, a Biden win could lower the risk to use ESG funds in 401k plans increasing the demand for these strategies.
Even in the first half of this year, companies faced concerns – and major costs – related to compliance with virus restrictions and environmental regulations. Share buybacks and labor concerns are top of mind in companies experiencing COVID-related layoffs. And, we can add that companies are being held directly responsible for their approach on social justice issues.
No matter who wins the election, considering these environmental, social, and governance (ESG) factors has given investors an edge over which companies have better prepared themselves for these issues and against related risk. If the policy environment does shift, companies who have taken the steps to prepare for such changes will more likely be least susceptible to regulatory environment or carbon taxes – benefiting their bottom line.
4. Technology and regulation
The U.S. has created some of the most highly regarded companies in the world over the past 20 years – a boon to the S&P 500 Index. The market has also outperformed, in part, thanks to a lighter regulatory and anti-trust burden, and a surge of share buybacks and tax cuts. Both parties have had their eye on technology companies as it relates to trade policy, financial practices, consumer protection, and social wellness, but none more fiercely than members of the Democratic party.
As the legislative and economic landscape changes, an accommodative regulatory environment for big tech companies may have run its course. Buybacks and acquisitions look economically impractical, socially unpopular, and politically scrutinized. Investors should consider broadening sector and asset class exposure moving beyond large-cap U.S. technology stocks. These are good companies, but not necessarily a good investment at elevated prices, especially in the face of potentially tougher regulatory landscape.
A global, balanced investment strategy focused on identifying companies with good cash flows and a solid income stream may help investors continue to generate return even if the technology sector faces headwinds.
Bottom line
As described in Navigating the 2020 Election – various election outcomes pose different policy approaches and uncertainties for the market. That said, neither administration will solely determine the longer-term fate of the economy or the financial markets.
Still, a “Democratic Sweep” scenario, and the potential for associated policy change, may not yet be reflected in capital markets. Shifting perspective could lead to increased volatility and more importantly investment opportunity. Given high levels of uncertainty, it is vital for investors to remain patient and stick to their strategic goals. Working with a financial professional can help you stay focused on an investment strategy that can help you reach your long-term financial goals in all types of market (and political) environments.
In our own portfolios, we are invested, but underweight risk assets relative to our strategic benchmark. We keep ample cash for flexibility and take advantage of tactical opportunities as volatility arises. Within equities, we like large-cap companies with strong balance sheets and stable cash flows. In fixed income, we remain higher in quality avoiding the most levered companies. We also keep our credit duration short to give us flexibility if default risk increases.