Reuters
- The 2018 midterm elections went as expected, which has made it tough for investors to find wrinkles in the market, since the outcome was largely priced in.
- Dennis DeBusschere, the head of portfolio strategy at Evercore ISI, proposes a simple stock trade he says is going overlooked in the post-election market.
The 2018 midterm elections are in the books, and the outcome was one that most experts expected: the Democrats reclaimed the House of Representatives, and the Republicans kept control of the Senate.
It's a definite win - and a redemption of sorts - for prognosticators who were caught flat-footed by Donald Trump's presidential election victory and the Brexit vote. But it's a tricky situation for traders who make their living finding unrealized wrinkles in the market.
Without the types of sharp moves that accompany an unforeseen outcome, markets can be, for lack of a better word, boring. Sure, stocks are surging, but everyone thought that would happen. It's only by finding overlooked opportunities that a trade can truly make a killing in such a market.
Luckily, Dennis DeBusschere, the head of portfolio strategy at Evercore ISI, has a two-part trade he says is going overlooked.
The first part involves going long machinery. According to Evercore, the market isn't yet factoring in the positive developments for the industry that should stem from the election results.
With a split Congress, Evercore says additional stimulus is unlikely to occur, which will result in slower economic growth and more constrained US Treasury yields. The firm says the market is overlooking what those factors could mean for trade and the Federal Reserve's future tightening plans as they pertain to capital goods. They should be a positive.
The chart below shows how much dormant upside currently exists in the capital goods/machinery space.
"Capital goods has lower macro risk relative to a few weeks ago," DeBusschere wrote in a client note on Wednesday. "That decline suggests the macro backdrop was not a driver of the recent risk-off event, and that there is room for improved performance as the worst fears surrounding peak growth subside,"
Evercore ISI
The second part of DeBusschere's trade is going short utilities. The sector, which has traditionally been a defensive option for investors, was resilient during the stock market's Red October, so it's already in a vulnerable place as risk appetite seeps back into the market.
When you combine that with a likely easing of financial conditions - since stocks are rising, expected price swings are falling, and bond spreads have stabilized - it's bad news for the utilities sector.
The chart below shows the extent to which utilities have historically tracked financial conditions. It suggests that as conditions ease, utilities will slip.
Evercore ISI
Of course, the most straightforward way to play the midterm election outcome is to simply go long stocks. The market was crushed in October, and most experts expect a reversion to the mean. The expected outcome was confirmed, which should remove uncertainty (and volatility) from equities.
But where's the fun in making the same trade as everyone else? That's why DeBusschere's recommendation is so enticing.