Investing.com -- This week, Capital Economics took a closer look at the US markets ahead of the upcoming presidential election next week.
In a report released Tuesday, the economic research firm highlighted three key points as the tight contest between Donald Trump and Kamala Harris nears its end.
Firstly, despite President Trump appearing to have momentum, the election is still uncertain, and markets could see significant repricing once the results are clear.
Betting markets are favoring Trump, with the probability of a Republican sweep now close to 50%. However, polls show a tight race in critical midwestern swing states, and history has shown that elections can yield unexpected results.
“While Trump outperformed the polls in both 2016 and 2020, it doesn't take more than a rudimentary grasp of statistics to know that a sample size of two doesn't lend itself to strong conclusions,” Capital Economics said in the report.
“What's more, many pollsters have since adjusted their methodologies, aiming to avoid a similar error this time around. Indeed, option markets continue to discount significant volatility over the coming weeks,” it added.
Secondly, Capital Economics believes that election perceptions are increasingly influencing financial markets.
This is evidenced by the rise in US Treasury yields over the past couple of weeks, which cannot be fully explained by economic data or Federal Open Market Committee (FOMC) member commentary, especially as oil prices have dropped sharply this week.
According to Capital Economics, this decoupling is “striking, given that relationship between yields and oil prices has been fairly strong over the past couple of years.”
Lastly, the bond market sell-off is beginning to pose a challenge to equities, complicating predictions on how a Trump victory would affect the stock market.
While a Trump win is generally seen as favorable for stocks due to the prospect of corporate tax cuts, the S&P 500 has not shown gains in line with Trump's improving odds.
The firm suggests that this could be related to the bear steepening of the yield curve, a pattern that has been linked to equity market downturns in recent years.
“If that effect continues, or strengthens, then a Trump win (which could well lead to a further steepening) would be a mixed blessing for equities,” the report concludes.