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This midterm-election surprise could goose stocks

Rick Newman
Senior Columnist

Just about every Wall Street bank has done detailed analysis of the midterm elections taking place on Nov. 6. The overwhelming assumption is that Democrats will win control of the House of Representatives, while Republicans will continue to control the Senate.

Split control of government means Congress won’t get much done. That would be fine with investors. The Republican tax cuts passed in 2017 would remain in place, and President Trump can continue to deregulate through executive actions that don’t require Congress to act.

But it’s also possible Republicans could retain control of the House—and continue implementing a Trumpian agenda. And the markets might like that. “There’s one big unknown out there,” Sam Stovall of CFRA Research tells Yahoo Finance. “What if Republicans retain control? We could end up seeing a pop if that occurs.”

Republicans have already proposed a second tax cut, in addition to the Tax Cut and Jobs Act that Trump signed late last year. Tax Cut 2.0, as it’s known, would make permanent individual tax cuts now set to expire in the 2020s, and make some other changes. Trump recently tossed an additional giveback into the mix, saying there’s a plan to cut middle-income taxes by 10%. There was no such plan anywhere in Congress at the time, but now that Trump has committed to it, Congress might act.

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Tax cuts aren’t uniformly good for the economy and for stocks, because they widen the federal deficit and force the government to borrow more money. That additional borrowing could push interest rates higher, over time, and leave less room for federal stimulus spending if there’s a recession.

But in the short term, tax cuts of the sort Trump has proposed would leave consumers with more disposable income, and they’d certainly spend some of it. That would boost economic growth for a while and raise profits at consumer-facing companies. A united government under Republican control would also be more likely to approve the new trade deal Trump negotiated with Canada and Mexico, and maybe approve a modest bill on infrastructure spending.

How likely is all that? Betting site PredictIt shows a roughly 38% chance that Republicans retain control of both chambers of Congress. Stat site FiveThirtyEight puts the odds lower, with GOP control of the House a mere 18% likelihood. Investors might win either way, however. Stocks typically stumble heading into midterms, but rally afterward. Investors like to get elections over with.

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Rick Newman is the author of four books, including “Rebounders: How Winners Pivot from Setback to Success.” Follow him on Twitter: @rickjnewman