Republican party clean sweep – what it could mean for markets

The Republicans have won what's known as a "governing trifecta" - with the President's party controlling both chambers of Congress: the House of Representatives and the Senate.

President Trump will now go about appointing his top team and preparing initial policy moves. However, both the House and the Senate majorities are relatively slim meaning President Trump might not get his way all the time. It would only take only a few defections to collapse the Republican majority. A particular issue is that the Republicans do not control 60 seats in the Senate which would allow them to circumvent the filibuster rule – a method used to delay or postpone the passage of legislation.

That said, a trifecta, if managed well, does open the way for the possibility of major legislative initiatives.

Trump's power advantage could be key in pushing through his big promises such as the deportation of migrants, tariffs on foreign imports, and the rolling back of environmental protections.

What are Trumps’ main policies?

A Trump presidency with a Republican Congress will lead to a widening fiscal deficit, more trade restrictions, less immigration, and less support for federal spending programs and the green transition.

1. Tariffs

One of Trump’s hallmark policies is to impose higher tariffs, particularly on Chinese imports. This approach aims to reshore more activity into the US by making home production more competitive, and helps to narrow the US trade deficit. The more the US collects in tariffs on foreign goods, the less Trump needs to collect through taxes on US workers and consumers.

While new tariffs could increase government income, the higher costs from tariffs will most likely be borne by consumers. Tariffs could also result in retaliatory measures and increased geopolitical uncertainty. Heightened trade tensions are expected, even with allies, particularly the EU. This would add to inflationary pressures in goods.

Read more: Trump tariffs explained: what’s the potential impact?

2. Increased fiscal deficit

The Trump administration will look to extend the corporate tax cuts introduced in the first Trump administration due to expire in 2026, and possible new tax cuts and credits for businesses and higher income individuals, would increase the government income shortfall.

This would be partially offset by reduced spending on social welfare programs, green transition subsidies and budget cuts to government agencies. Other forms of industrial policy targeting the revival of American manufacturing and derisking from China are expected to continue.

3. Curbed immigration and deportation

Trump’s immigration policies will be focused on curbing illegal immigration and increasing deportations. These types of measures would tighten the labour market, which is already tight by historical standards.

Increased labour shortage problems in a sector already facing relatively high wage growth and labour scarcity would add further upward pressures on inflation. But they also pose challenges for industries that rely heavily on immigrant labour as much of the job growth over the past few years was driven by immigrants filling in lower-skilled services jobs.

4. Oil and gas policies

Trump’s energy policies favour increased domestic oil production, aiming to strengthen US energy independence and reduce reliance energy cost for businesses. While increased production can lead to lower global oil prices, it may also be balanced by higher demand if the economy overheats, and inflation rises. Lower oil prices benefit consumers and businesses through reduced energy costs, but can negatively impact the profitability of domestic oil producers.

Trump is expected to reverse or amend much of the green transition architecture of subsidies, tax breaks, and mandatory targets. But a lot of green energy investments are likely to continue as they are concentrated in red states where many companies have already started projects and are creating new jobs. Lots of these projects were started on the premise of tax breaks and/or subsidies and a reversal of these agreements would see the companies lose money.

In general, President Trump sees cheap and abundant energy as the key to achieving his primary goal: to revive American manufacturing.

What could Trump’s policies mean for markets?

A Republican win was greeted well by the markets. On the day of the election, the S&P 500 was up by around 2.5% and the Russell 2000 gained as much as 6.5%. The markets’ reaction to the election results reflects the opinion that Trump 2.0 could follow a similar vein to Trump 1.0, favouring cyclical and domestically-focused companies.

In other areas of the world, the outcome of the election wasn’t met with the same optimism as the market feared the potential outcomes of Trump’s policies and tariffs on global trade.

The key one for markets would be curtailing the independence of the Fed which would likely lead to an overheating inflationary economy in the short to medium term. In the long run, blurring the division of powers would lead to the deterioration of confidence in the independence of American institutions which were key to its continued economic success over the last century.

Taken together, a Trump presidency is expected to be inflationary with an uncertain outlook on growth. The Fed would need to hold rates higher which would put upward pressures on yields across maturities. Equities are likely to benefit slightly from tax cuts and reduced regulation which are likely to outweigh higher rates and knock on effects of trade disputes.

In our view, we think the market sentiment towards the US is slightly overdone and expect it could take up to six months for clarity of Trumps’ policies to pull through. Further volatility is expected in the short term until the picture becomes clearer.

What could Trump’s Presidency mean for different asset classes?

1. Equities

The current market dynamics suggest a potential broadening rather than a decisive shift in the balance between small and large-cap outperformance.

Unlike previous cycles, the playbook this time around is significantly different in terms of policy, focus, and the inherited economic situation. In the short term, the reacceleration of the economy is expected to support a market rotation toward small and medium cap stocks. However, this positive momentum is likely to be counterbalanced by the prospect of ‘higher for longer’ interest rates.

When it comes to the US’s dominant tech sector, historical trends have not always been favourable. Yet several factors set the current environment apart. For example, influential figures from California's venture capital and tech communities, such as J.D. Vance and Elon Musk, are now prominent voices. Additionally, there is a growing embrace of cryptocurrency and a renewed emphasis on American technological supremacy.

Despite these positive developments, the likelihood of higher rates equates to higher discount rates for growth-oriented tech companies which could impact their performance similarly to small-cap stocks. A lot of these growth companies are valued based on profits they are expected to make in the future, which are worth less in today’s money with higher discount rates. Additionally, small-cap stocks are more exposed to floating rate debt as a financing source. This eats into their profits further when rates are higher.

2. Fixed income

There was an initial broad sell off of the US sovereign bonds on the day of the election. The long end of the curve was sold off as traders became concerned about inflation reaccelerating as a consequence of the Trump administration, the independence of the Fed, and the potential for central bank rates to increase. The short end of the curve sold off a few days later after the latest release of CPI data and comments from the Federal Reserve indicating that the pace of rate cuts will be slower. Similar to equities, we think some of the initial market reaction might be overdone.

The recent pricing in of Trump's fiscal plan has significant implications for the bond markets, particularly in terms of peak yields. The 10-year US Treasury yield is likely to range between 4.50% and 5.00%, with some upside risk. Overall, the prospect of a widening deficit and “higher for longer rates” has put upward pressure on yields across the US sovereign curve.

There are fears in the bond market of too much extra borrowing to sustain tax cuts, although the market has managed to fund the money for the substantial deficits run by the outgoing administration. The market will need to adjust not only to tax cuts, assuming Republicans can pass the legislation, but also to any success President Trump might have with reducing the size and cost of government.

There is likely to be further volatility as US policy is revealed, but a time may be coming to increase duration exposure. Extending duration can protect against growth risks and capture potential upside in sovereign bonds amid global monetary easing.

3. US Dollar

On election day, the US dollar (USD) strengthened quite significantly by over 1% against a basket of other currencies.

A stronger USD is almost certain. Despite wanting a weaker dollar to assist with competitiveness of manufacturing exports, a policy combination of high deficits, high growth and high inflation (leading to higher interest rates) are likely to lead to a stronger dollar.