The Election, Inflation, and Other Matters

Almost everyone I talk to has basically one concern when it comes to the economy, their finances, and retirement...and that is the upcoming election. So, let's talk about it.

First, let's discuss what is going on in the stock market right now. You may see that the "market" made a new high in the past few weeks. An all-time high. How does this happen when the economy is struggling an unemployment is 8%?

Don’t believe it. It is a fallacy. The market was pushed higher by five stocks. Those five stocks are Apple, Google, Microsoft, Facebook and Amazon. These five stocks have now become a larger portion of the S&P 500 than anyone could have ever dreamed. Remember, the S&P is market cap weighted, so the price of the stock matters. Let us put it in perspective.

This is a chart of the S&P market cap weighted.

Here is the same index, the S&P, equal weighted:

As you see, equal weighted is still down 10%.

The market did not make a new high, 5 stocks did. The other couple hundred are still down 10% for the year. That may be why a well-balanced portfolio is actually performing worse than a crappy, non-diversified portfolio right now. Remember, these things correct themselves. Reversion to the mean is inevitable. Tech stocks are way too expensive, and that will fix itself.

More on this later, back to politics.

Right now, most polls are predicting a Biden win. But remember, in 2016 going into the day of the election, Trump didn't stand a chance. So, the worst thing we could do from a financial perspective is to try and "make a bet." We don't bet with life savings.

Let's look at the history.

**Credit to Morningstar for the chart**

So, historically, on average, it hasn't.

Could this time be different? Maybe. Here's is why it might be.

As our politicians become more polarized, there is a direct correlation to how different sectors and types of stocks perform in different political climates. Bottom line, some stocks do better when a Republican is in office, some with a Democrat. Talking specifics, let's go through what a Biden stock market would look like vs. a Trump market.

A Biden win would most likely produce higher corporate taxes and personal income taxes. Historically, that has not been positive for the economy. There is a direct correlation to economic growth and the corporate tax rate. All the Nordic countries that most people think are socialist, actually have very low corporate tax rates, some less than the US. They also have strong economies. According to research from State Street, Morningstar, and other large firms, there could be an 8-15% reduction in overall corporate profits with the proposed Biden corporate tax plan. That's nothing to slouch at. That would most likely be priced in almost immediately into the stock market.

These are the sectors that would most likely perform well in a Biden administration.

Solar, wind, renewables
Cannabis
Electric vehicles
Infrastructure
Healthcare stocks that insure Medicare recipients

These are the sectors that would most likely struggle:

Energy in general (oil, fossil fuels, etc)
Healthcare (biotech research and general healthcare stocks)
Big tech
Financials

From a weighting perspective, tech, financials and healthcare combined make up more than half the stock market.

A Trump win would most likely be the inverse of what you see above.

So, what do we do? Should we lower our overall exposure to the stock market? Put the money in bonds?

There's another factor peeking its ugly head.

Inflation.

To help combat the economic effects of COVID, we printed money. A LOT OF MONEY. This has caused a severe de-valuation of the dollar, which has just started to show impact and will continue. When currency gets devalued, prices go up. Look at Venezuela. That is an extreme example, but the most recent Federal Reserve comments were that they will "let the economy run hot" meaning they will not take action to keep inflation below 2% for some time.

What other effect did this have? It crushed bond rates. Bonds are paying historically low interest rates right now because money is cheap. Have you seen mortgage rates right now? They are as low as low gets.

So how do we keep up with inflation?

Stocks and TIPS.

Stocks are historically the best way to combat inflation. TIPS are right behind them. A TIP is a treasury inflation protected security issued by the US Government that pays interest in excess of inflation.

Some people are saying that they don’t see the effects of inflation yet. The government published numbers recently showing inflation was still low. I say, go to the grocery store and buy some beef. Beef prices are soaring. That is inflation at work.

So, again, what do we do? The economy. The election. Inflation. So many factors to consider.

Here is my current recommendation. This could change tomorrow. If the data shows differently, we'll adjust. If one of the candidates propose an initiative that could change the game plan, we'll adapt. The next 44 days will be interesting to say the least.

Risk tolerance assessment - If you are severely concerned about the performance of the stock market, you could move to the lower end of your stock allocation for your risk tolerance. This does not include "getting out." Even the best money managers in the world have been proven to have horrible timing trying to go to cash, then reinvest at the right time. I know people who pulled their money out when things started to go south from COVID. They missed 10-20% of the drop in the market. Then, they struggled getting back in. They were stuck like a deer in the headlights, waited, but couldn’t pull the trigger. Some of them are still out, and some bought back even higher than when they left! Stay invested. Stocks are the best way to keep up with inflation. And the inflation train is coming.
Change our sector weightings - We’ll be changing our weightings in some sectors to minimize the potential negative impacts from the election, while still being able to benefit from either side winning. Again, we're not betting or going all in on either person winning, because anything could happen. We're going middle ground.
Adding volatility management options - Gold, covered call and put writing, private equity, real estate, etc. All things we can invest in to help manage the potential upcoming volatility.
TIPS - If you are a client, you probably are already seeing them being bought in your portfolio. If not, you will.
Emerging opportunities globally - There are places in the world that have great opportunities for investment that will most likely be less impacted by the US election than others. Finland's economy is rocking. We'll be finding opportunities like that and taking advantage of them.

We're on top of it. We can't predict the future, but we can prepare for it.

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Risk Disclosure: Investing involves risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Past performance does not guarantee future results.

This material is for information purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. The content is developed from sources believed to be providing accurate information; no warranty, expressed or implied, is made regarding accuracy, adequacy, completeness, legality, reliability or usefulness of any information. Consult your financial professional before making any investment decision. For illustrative use only.