ETF Trends
ETF Trends

Just as presidential candidates are on the road engaging in debates and meeting with voters ahead of the 2016 presidential election, I’ve been on the road speaking with Investment Professionals about what the election means for government spending, financial markets and investors.

I recently traveled to Florida to speak with financial advisors, where I shared my view that the 2016 presidential election cycle means the “age of austerity” is ending as Congress approves spending measures in order to woo voters. I explained that this spending may have unintended consequences for the US dollar, and that there are sectors that could benefit from increased government spending.

Congress boosts fiscal spending ahead of the presidential election

During major elections, Congress is known to approve spending measures to curry favor with voters and the upcoming presidential election is no exception.

Late last month, Congress passed a budget deal that will boost domestic and defense spending while extending the debt limit until March of 2017.1 The deal increases discretionary spending by $80 billion over two years, with $50 billion available in fiscal 2016. It also requires the Energy Department to sell crude oil from the Strategic Petroleum Reserve, raising $5.1 billion over 10 years, and for two years the deal lifts the sequester budget caps put in place by the 2011 Budget Control Act.2

Adding to this fiscal stimulus, the House passed a multi-year highway bill in early November that includes more than $300 billion in transportation and infrastructure programs.3

End of the age of austerity may constrain the US dollar

From 2011 until 2014—what I refer to as the age of austerity—government policy detracted from US GDP. The newly passed legislation means government spending is likely to serve as a cushion to GDP through 2017. However, we all know there is no such thing as a free lunch and Washington’s attempt to move away from austerity will have consequences.

One consequence is that the federal budget deficit is forecast to increase in 2016 after having declined for four years. Another consequence, which many investors I speak with are not expecting, is that the strength of the US dollar could slow in the next two years as the trade deficit widens.

In previous years, quantitative easing measures implemented by the Federal Reserve (Fed) helped push down the value of the dollar. As depicted in the “US Exports vs. US Trade Weighted Dollar Index” graph below, that drove demand for US exports, helping to shrink the trade deficit. But that trend has reversed itself. In the past 12 months, the dollar has strengthened considerably, making US exports more expensive for trade partners and widening the US trade deficit.

Source: State Street Global Advisors, Bloomberg, as of 9/30/2015

Market participants seem to be operating under the principal that we will see continued strength in the US dollar as Europe and Asia take a page from the Fed’s playbook, implementing accommodative monetary policies to stimulate growth. However, I believe the impending US budget deficit and widening trade deficit are signaling that the tailwinds that have bolstered the dollar’s strength are easing and evolving headwinds could constrain its ascent.

Government spending could embolden the Federal Reserve

It’s no surprise that the advisors I spoke with in Florida wanted to understand how this presidential election will impact markets and what pockets of opportunities might emerge.

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