JPMorgan's Kolanovic Says Midterms May Make Trump Drop Trade War

(Bloomberg) -- A split Congress is the best outcome for global markets as it may ease trade war tensions and lead to a rally into the year-end, JPMorgan Chase & Co. strategist Marko Kolanovic wrote in a note Wednesday.

Kolanovic’s conclusions run counter to the thinking of some analysts who said that the best result for markets would have been for Republicans to retain both the U.S. House and Senate. Administration policies last year were pro-business, but this year they have been “strongly anti-business” such as the trade war, protectionism and subsidies, he wrote. Therefore, a “red wave” could have been seen as an endorsement of the trade war.

“As the President cannot count on Congress or the Fed for more easing, he will need to do what is in his power to keep the economy rolling -- drop the damaging trade war and turn it into a winning deal,” Kolanovic wrote.

The strategist sees gains likely in high-beta indexes such as the Russell 2000 and MSCI Emerging Markets.

Here are some of the factors that have Kolanovic seeing gains into the end of the year:

• Buybacks, with November looking like it may be the strongest month on record based on JPMorgan research and month-to-date activity
• Realized volatility is expected to decline. Systematic investors will start rebuilding positions into year-end and could add about $1 billion of inflows per trading day into year-end
• Implied volatility has declined and the VIX term structure has reverted to contango -- where the future price is below current price -- which for some strategies is a positive signal
• Next week, one-month price momentum will turn positive for most equity indexes globally (it’ll be one month since the market crash) and may lead to inflows from Commodity Trading Advisors or short-covering
• Elections have passed, removing the tail risk of a “blue wave” of Democrats taking both the House and Senate
• Split Congresses have historically been positive for the market, and it reduces the probability of the most negative trade-war outcome
• The U.S. earnings season “turned out to be one of the strongest in a decade”

As for the October sell-off, “it was essentially a miscalculation and a conflict between the U.S. administration and Fed going into important midterm elections,” Kolanovic wrote. Calling the decline “one of the more curious events in U.S. financial history,” he said it was fueled by “systematic flows, low liquidity and hedge-fund deleveraging,” and “the catalyst was politics.”

He also said the administration may have miscalculated that the new North American Free Trade Agreement deal would be enough to prop up market sentiment, and that the Federal Reserve would provide dovish “cover” for the trade war.

“The catalysts for the October crash were miscalculations on both sides, and we hope lessons will be learned,” Kolanovic wrote.

To contact the reporter on this story: Joanna Ossinger in New York at jossinger@bloomberg.net

To contact the editors responsible for this story: Chris Nagi at chrisnagi@bloomberg.net, Randall Jensen, Eric J. Weiner

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