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Weekly Memorandum 11/2/2020

Stocks retreated again last week, but are up fairly nicely to start the presidential election week. As potential election outcomes dominate the news headlines, it's worth taking a moment to remind readers that our job as an analyst is to limit personal bias within our analysis, and focus primarily on historical market studies with respect to the election.

There is a fairly reliable equity market indicator, as presented by LPL research, that shows how equity performance in the 3 months leading up to a presidential election has accurately predicted all but 3 of the outcomes going back to 1928. Basically, the study shows that if stocks exhibit positive returns in the 3-month window prior to the election, the incumbent party wins. So, let's break this down further, because this election is close. On August 3, 2020, the S&P 500 closed at 3294.61. As of this writing, the S&P is trading around 3311, not even 20 points above the August 3 close. Therefore, this study *currently* suggests that equities expect a Trump re-election. Granted, the market is still open, and we could close below 3294.61 by November 3, but for now, this is what's currently observed.

Moreover, we note that interest rates have crept higher in recent weeks (bonds trading lower). This too, seems to be congruent with a Trump re-election. However, this macroeconomic analysis is unique to The Mercator, and is based off our understanding of global capital flows and monetary policy. This thesis has been outlined in great detail in recent Mercator Letters going back to mid-August. Simply put, interest rates tend to rise when inflation expectations rise, which tends to occur during periods of economic growth. Given that candidate Biden plans to reverse the 2018 tax cuts and increase regulation, we would expect the fiscal side of economic policy to revert to contraction mode if he wins the election. Frequent readers know that financial markets operate as a discounting-mechanism based off future expectations. Therefore, if markets were truly expecting a Biden victory, we would expect rates to be falling, not rising. Keep in mind that interest rates formed an important low in July 2016, before the last presidential election, and then proceeded to rise for over 2 years afterwards.

In other markets, Bitcoin closed out at its second highest monthly level in history, which is a very bullish development. We are still constructive on crypto as an asset class, and encourage readers to check out our Mercator Crypto report.

Commodity markets were down last week, as the U.S. Dollar finally caught a bid. This is another sector (currencies) that we are watching closely, especially as Europe starts another round of lockdowns. Why wouldn't global capital seek refuge in parts of the world that are actually open for business?

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