American politics: Markets still depend on fundamentals

Hillary or Trump? Before we get too hung up on how one U.S. President or another might impact markets, let’s keep in mind that the impact the executive can have is intentionally limited. Wise investors continue to focus on what always impacts investments: market fundamentals.

America’s founding fathers were incredibly wary of government. They deliberately created a political system where it was almost impossible to get anything of consequence done. In essence, the gridlock we have faced in the last few years is a feature of these checks and balances, not a bug.

Significant policy changes, especially domestically, take the support of all three branches of government (legislative, judicial, and executive). Therefore, the executive’s power to affect the US economy and long-term policy is not as great as many fear.

The President needs the support of the House

The legislative branch, or Congress, is split into two parts: The House and the Senate. The 435 members of the House of Representatives are intended to represent the American people’s voice. Each state’s number of representatives is determined by population and run for re-election every two years— a significant majority of the current seats are considered “safe” by political observers, or unlikely to replace either the incumbent or party, which makes it unusual and difficult for control of the House to change frequently.

Currently, the Republicans enjoy a healthy 59-seat majority. While possible, it would be very surprising if Republican Paul Ryan were not the Speaker of the House next year. And since spending initiatives require the support of the House of Representatives, either President Trump or President Clinton would have to get Speaker Ryan on board in order to make meaningful policy changes. 

And even if a piece of legislation gets through the House, the Senate still needs to approve it and the President needs to sign it so it can become law. Even then, there is always the chance that the Supreme Court will strike it down in the future.

The President needs the support of the Senate

There are 100 Senators, two from each state, that are reelected every six years. Given their longer terms, this legislative body was meant to be more contemplative and less impacted by transitory popular political trends. Therefore throughout U.S. history, the Senate has usually been less politically polarized than the House.

Currently, the Senate is controlled by Republicans, with a 54-to-46 majority. There are 30 seats up for re-election in 2016, 24 of which are Republican (they had a very good 2010) meaning that there is a very real possibility that the Democrats could take the Senate.

In any case, it is highly unlikely that either party will have an overwhelming majority, meaning whoever becomes President will have to negotiate with the Senate as well as with Speaker Ryan.

The Electoral College has the final say

As Al Gore will tell you, it is possible to win the national popular vote but lose the election. Why? Technically the President is elected by the Electoral College (EC). 

The break out of 538 EC votes, awarded on a state by state basis, is as follows:

  • 435. One EC vote for every House of Representatives district. Big states matter more than small states.
  • 100. One EC vote for every Senator. Smaller population states have a greater potential impact on the election than their size would normally warrant.
  • 3. Washington D.C. gets the same number of EC votes as the smallest state.

That gives you a total of 538 Electoral College (EC) votes, of which you need 270 electoral votes to become the President of the United States. In the unlikely event that no candidate gets the necessary majority, the House of Representatives selects the President from among the candidates.

Focus on the fundamentals

All this isn’t to say it doesn’t matter who wins the presidency in November. The point is that the system is intended to limit the likelihood of huge change, either for good or for ill. As interesting as it is to second-guess the impact of Presidential elections on markets, investors would be better served to focus on the fundamentals of the US stock market.

The economy continues to grow. S&P 500® earnings growth is coming in negative for the third straight quarter. And US stocks are expensive. While I clearly care about the election, my attention is going to be focused on whether US corporate earnings are actually growing as the market currently expects. In the end, I think that will matter more as it relates to stock prices. That may change between now and Election Day, but history tells me it won’t. And while history appears to be on my side, the unprecedented nature of this year’s election may mean we have more to say on the subject soon.