Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 307

From popular to unthinkable: do political outcomes impact investments?

President Donald Trump warned us in his State of the Union address in February 2019 to resist the pull of socialism, while Senator Bernie Sanders told us in his campaign announcement that his ideas are now markedly more mainstream than they were in 2016. You can't pick up a publication without reading an assessment of the Democratic presidential candidates' shift to ‘the left’. It seems an idea has become a trend in a short period of time.

Some may argue this is a logical evolution in a two-party political system characterised by growing divisiveness. Recent election outcomes markedly favored one party, so perhaps it shouldn't be a surprise to see the electorate move in an equally radical but opposite direction. Welcome to global politics in a polarised world.

The window of political discourse

This is a good example of the Overton Window, also known as the window of discourse. It describes how the level of acceptance for a political idea can shift over time as the ‘window’ grows in response to changes in public perception. Ideas and public policy once viewed as extreme can become acceptable to politicians and the public, often in response to increasingly-radical competing views.

political outcomes

political outcomes

The political movement toward the left in the United States and elsewhere is in part a response to growing differences in income and wealth. While undoubtedly a global theme, it's particularly pronounced in the United States. Policy ideas promoted to compete with those of the current US administration are often presented through a lens of Pareto Efficiency, i.e., when it's impossible to make one party better off without making someone worse off. A zero-sum game in other words. In this paradigm, allocating resources in favor of one group is only possible at the expense of another group.

This point is exemplified by the proposed increase in tax rates on higher earnings or a wealth tax to finance Medicare for all and universal college tuition. While the intention of these policies is clearly to redistribute income and wealth, it's worth asking whether they'll have unintended consequences with broader ramifications. Might policies such as these also impact government debt balances and economic growth?

Proponents of redistribution policies argue for greater equality and more money in the hands of those most in need — also the group most likely to spend any additional income, which would foster economic growth. Detractors argue policies of this nature sacrifice prosperity and create investment uncertainty that constrains growth. Wealth and income may be divided differently, but the pie may, in fact, shrink in this scenario. There are more opinions on this subject than I can enumerate and I'll let elections decide the outcome.

Investment consequences of redistribution policies

That said, regardless of your views in this debate, there are undoubtedly potential outcomes and investment implications to be considered if this redistribution trend becomes policy. Higher tax rates will likely push investors into a tax-advantaged asset class. Increased public spending could find its way into state and local budgets, improving credit quality and benefiting projects with municipal financing. Infrastructure investment opportunities and utilities are also likely to benefit in this scenario.

What happens to interest rate exposure is a key question. Higher debt balances may exacerbate the structural challenges that characterise the US economy today: stagnant growth and disinflation. This scenario benefits duration and fixed assets, and has been a factor in our ‘low-for-longer’ rate investment thesis. However, high debt balances can be destabilising for an economy from a macroeconomic perspective, while rising debt-service may crowd out investment alternatives. Challenges to credit quality of this nature are often met with higher risk premiums and, consequently, also higher interest rates. In this situation, income redistribution might improve the economy, prompting a more aggressive Federal Reserve Bank. These outcomes would argue for less interest-rate exposure.

In a piece of this nature, I run the risk of over-generalising. Nothing is simple in the complex investment environment today. There are many cooks jockeying for a place in the public policy kitchen, and more and more ingredients being stirred into the pot. Headlines frequently reflect the heat of the current divisive climate, but seldom the substance of the issues.

Predicting political outcomes

Our goal at MFS is to invest in the framework of a long-term investment horizon rooted in an assessment of fundamentals and valuation. Political outcomes are challenging to predict. I'm not convinced that forecasting binary political results creates a competitive advantage for managers. Instead, we need to understand the investment implications of a variety of outcomes and create a probability matrix that maps all of them.

This is the kind of environment in which active investment management with a longer-time horizon should thrive. It's easy to get caught up in the short-term ebb and flow of eye-catching headlines. It's more challenging to invest for the long term, but this is typically the horizon needed for valuation to intersect with fundamentals — and the generation of more consistent risk-adjusted investment returns.

 

William Adams, CFA, is the Chief Investment Officer, Global Fixed Income at MFS Investment Management. The comments, opinions and analysis are for general information purposes only and are not investment advice or a complete analysis of every material fact regarding any investment. Comments, opinions and analysis are rendered as of the date given and may change without notice due to market conditions and other factors. This article is issued in Australia by MFS International Australia Pty Ltd (ABN 68 607 579 537, AFSL 485343), a sponsor of Cuffelinks.

For more articles and papers from MFS, please click here.

banner

Most viewed in recent weeks

House prices surge but falls are common and coming

We tend to forget that house prices often fall. Direct lending controls are more effective than rate rises because macroprudential limits affect the volume of money for housing leaving business rates untouched.

Survey responses on pension eligibility for wealthy homeowners

The survey drew a fantastic 2,000 responses with over 1,000 comments and polar opposite views on what is good policy. Do most people believe the home should be in the age pension asset test, and what do they say?

100 Aussies: five charts on who earns, pays and owns

Any policy decision needs to recognise who is affected by a change. It pays to check the data on who pays taxes, who owns assets and who earns the income to ensure an equitable and efficient outcome.

Three good comments from the pension asset test article

With articles on the pensions assets test read about 40,000 times, 3,500 survey responses and thousands of comments, there was a lot of great reader participation. A few comments added extra insights.

The sorry saga of housing affordability and ownership

It is hard to think of any area of widespread public concern where the same policies have been pursued for so long, in the face of such incontrovertible evidence that they have failed to achieve their objectives.

Two strong themes and companies that will benefit

There are reasons to believe inflation will stay under control, and although we may see a slowing in the global economy, two companies should benefit from the themes of 'Stable Compounders' and 'Structural Winners'.

Latest Updates

Retirement

Stop treating the family home as a retirement sacred cow

The way home ownership relates to retirement income is rated a 'D', as in Distortion, Decumulation and Denial. For many, their home is their largest asset but it's least likely to be used for retirement income.

Property

Hey boomer, first home buyers and all the fuss

What is APRA worried about? Most mortgagees can easily absorb increases in interest rates without posing a systemic threat to the banking system. Housing lending is a relatively risk-free activity for banks.

Property

Residential Property Survey Q3 2021

Housing market sentiment has eased from record highs and confidence has ticked down as house price rises slow. Construction costs overtook lack of development sites as the biggest impediment for new housing.

Investment strategies

Personal finance is 80% personal and 20% finance

Understanding your own biases and behaviours is even more important than learning about markets. Overcome four major cognitive biases that may be sabotaging your investing and recognise them in others.

Where do stockmarket returns come from over time?

Cash flow statements differ from income statements and balance sheets, and every company must balance payments to investors versus investing into the business. Cash flows drive the value of the business.

Fixed interest

How to invest in the ‘reopening of Australia’ in bonds

As Sydney and Melbourne emerge from lockdown, there are some reopening trades in the Australian credit market which 'sophisticated' investors should consider as part of their fixed income portfolios.

Shares

10 trends reshaping the future of emerging markets

Demand for air travel, China’s growing middle-class population, Brazil’s digital payments take-up, Indian IPOs, and increased urbanisation are just some of the trends being seen in emerging economies.

Sponsors

Alliances

© 2021 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.