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“Affordability” is the central issue in the upcoming US congressional elections. As the cost of food, energy and rent continues to rise, President Trump’s popularity continues to decline. “The election on 3 November will effectively become a referendum on inflation and the cost of living,” explains Thorsten Fischer, Managing Director and Head of Portfolio Management at Moventum AM. Voters are hoping for a reversal of this trend. “For the markets, what matters is not so much who wins, but rather that the uncertainty comes to an end,” says Fischer.

The Republicans face a difficult outlook heading into the midterm elections. They currently control the Senate by 53 seats to 47 and hold a narrow majority in the House of Representatives, with 218 seats – just five more than the Democrats. However, this merely reflects the outcome of the last election, and the outlook for Trump's party is bleak. The Democrats' lead in the generic congressional ballot, a measure of nationwide voting intentions, has widened. In early October, they were ahead by eight to nine percentage points.

The President himself is proving to be a liability for the Republicans. Only 37 to 38 per cent of Americans still support Trump's policies. In particular, the war against Iran, which has driven up oil prices, is eroding his popularity. According to prediction markets, control of the House of Representatives is likely to change hands. The outcome in the Senate, however, remains uncertain. The Cook Political Report considers it a close race, with a slight advantage for the Republicans.

One factor working in the Democrats' favour is the central election issue: purchasing power. Inflation and the cost of living dominate the debate. Petrol prices continue to rise, rents remain extremely high in many areas, and higher interest rates are making home ownership unaffordable. The term “affordability crisis” has become widespread. “Voters have greater confidence in the Democrats when it comes to affordability,” says Fischer.

How might the election unfold? There are essentially three possible scenarios. The most likely outcome is a divided Congress, with the Democrats controlling the House of Representatives and the Republicans retaining the Senate. The two chambers could then block each other's initiatives. “This would mean legislative gridlock, more congressional investigations and tough budget negotiations,” explains Fischer.

The second scenario is a “blue wave”, in which the Democrats win control of both chambers. “This would increase pressure on Trump's tariff policies and his approach to the Middle East,” Fischer emphasises. However, the President could still use his veto to block legislation and continue governing through executive orders.

In the third scenario, the Republicans retain control of both chambers. Deregulation, tariff policies and tax cuts would then likely continue. “This would be the biggest surprise and would provide short-term support for the dollar and cyclical stocks,” says Fischer.

Regardless of the election outcome, tariff, sanctions and foreign policies will largely continue to be implemented through executive orders, meaning the midterms will have little impact in these areas. “However, changes could emerge in relation to the budget, the debt ceiling and new fiscal stimulus packages,” says Fischer. “This is where the risk lies.” The Trump administration is running enormous deficits, with the shortfall reaching six per cent of GDP in the fiscal year just ended. Political disputes and another government shutdown could therefore loom immediately after the election, as the temporary government funding measure only runs until 11 December. “This could become a stumbling block,” Fischer explains.

Midterm election years tend to follow a distinct pattern in the stock market. According to Carson Investment Research, part of US wealth management firm Carson Group, the S&P 500 has experienced an average peak-to-trough decline of 17.5 per cent during midterm election years since 1950. The market has often reached its low point in September. This has typically been followed by a recovery: since 1950, the index has been higher 12 months after every midterm election, with an average gain of 16.6 per cent, regardless of which party won. “The key factor is the end of uncertainty,” says Fischer.

This year, however, the typical market correction has not materialised, as factors such as war, rising interest rates and high valuations are currently having a greater influence on markets than the electoral cycle. “Without the usual pullback, some of the potential for a recovery is missing, so historical averages cannot be applied directly,” Fischer explains. “However, this is no cause for concern: even in midterm election years when the market was trading close to its highs, it has never been lower 12 months later.”

Politics nevertheless plays a significant role for individual sectors. Banks, for example, will benefit from deregulation only for as long as the Republicans retain control of the Senate. Energy stocks are currently being supported by high oil prices. However, political measures aimed at curbing prices could put downward pressure on the sector. A Democratic victory would likely support the renewable energy sector, whose subsidies Trump has drastically reduced. “However, the potential upside remains limited by the President's veto power,” says Fischer. In the healthcare sector, regulatory risks will persist regardless of the election outcome, as both parties are campaigning on the issue of prescription drug prices. The defence sector, by contrast, is relatively well protected, as both parties support higher defence spending.

“Investors should be prepared for increased market volatility in the run-up to the election. This is normal and not a signal to sell,” says Fischer. He does not consider betting on a particular election outcome to be a sound strategy, as historical market patterns have been independent of which party emerged victorious. History also suggests that investment opportunities tend to arise in the weeks following the election.