Democrats are projected to control both the House and the Senate, and stock futures swung from sharp losses overnight to gains by the morning. Companies building data centres for AI are under pressure, but the election is only part of the bigger picture. Sonu Varghese, Chief Macro Strategist at Carson Group, explains why mixed government has historically not been bad for markets and what ballot measures on data centres tell us about voters. He also looks at spending, the deficit and Treasury yields, why he expects the Fed to raise rates in December, and how investors should position into 2027.
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Mixed Government in Washington and Why Rates and AI Matter More Than the Election
What do last night's results mean for the economy and markets, and how should investors be positioned heading into the end of the year and 2027?
The big picture is that we have mixed government, and historically mixed government, with two parties competing for power, has not been bad for markets. Markets were down last night, but once the event risk is past, hedges come off. S&P futures are up close to 1%. What is interesting is that there is more breadth now. Dow futures are up over 1.5% and Russell 2000 futures are up about one and a half. Nasdaq futures are down, with areas like data centre providers struggling, and then you have Tesla and SpaceX. The other notable thing is that voters are looking to face the frontier, and they are not happy about data centres. We had about 45 ballot measures related to data centres, on whether to restrict or allow them. Thirty three out of 34 have won so far, five others are leading, and we do not have results for about six, on top of six other broad measures passed to restrict data centres earlier this year. Markets will get over this. Historically, after a Republican president loses the House and Senate to the Democrats, as in 2006 and 1990, the next year tends to be pretty positive for markets, with an average return of about 17%.
Does the outcome change your outlook, or is the election less important than investors think?
The biggest thing right now is whether the AI wave continues. Markets have been asking that question since the end of June. There are also larger issues than the election itself, like whether the Fed will raise interest rates. I think they will, likely in December, because inflation is still hard. Inflation is running well above their target, so the question then is when they stop and how high they take rates. Those questions matter more for the market right now.
What does the new balance of power mean for government spending, the deficit and Treasury yields?
President Trump is effectively a lame duck, but there is still a lot of power in the White House. You need the president to sign bills, and he is a negotiator as well. What is interesting is that you have three New Yorkers in charge of Washington, with Hakeem Jeffries probably as Speaker of the House, Chuck Schumer, and President Trump. When it comes time for a government funding bill, likely in February or March, I think both sides give a little bit. The Democrats are going to want to reverse a lot of the Medicaid cuts in the One Big Beautiful Bill Act and some science and health research funding. President Trump probably wants more defence, and he is likely to get some of it. So spending goes up and the fiscal deficit goes up. Usually that is actually good in the short term for aggregate profits, so in a way it is good for markets. The other side is the bond market. Inflation is definitely a question. There is a reason the ten year yield is hanging around 4.92 this morning. The inflation outlook has not collapsed, and we are still in an environment of strong nominal growth.
Does the election change the Fed's thinking, or is it still all about inflation?
They will be focused on inflation. At their last meeting in October they upgraded the economy from solid to strong, and said the labour market is creating enough jobs to keep up with population growth. The unemployment rate is low, but inflation is elevated. They did not raise rates then, which to me was baffling if they are going to raise in December. But December looks likely, and maybe one or two more hikes after that if inflation does not look like it is going away. Part of it is oil, which depends on what happens in the Middle East. There is a question about whether President Trump is unleashed now and escalates, or pulls back. Either way they still have to get around the negotiating table, and we saw in June and July that the ceasefire did not hold for long. Oil is close to 100 dollars a barrel. But inflation is not just oil. It is also AI related bottlenecks and services inflation, such as personal care, dry cleaning and restaurant prices. Inflation is broad based, and it is likely to stay closer to 3% than 2%.
What changes for Americans' borrowing costs, and how should investors position into 2027?
We believe we are in an environment of inflationary growth, which is good for stocks, driven in large part by the AI wave. There may be a little more control there depending on how many moratoriums we see on data centres, but I do not think the resolution is that data centres do not get built. I think they get built, and the cost of capital goes up, which has an impact on the bond market. Since September, bonds have been tracking the AI wave. As tech stocks went up, yields went up. As tech stocks went down in October over three or four weeks, yields went down, and the ten year yield pulled back from 5.35 to about 4.95. I think that dynamic continues. We do not think the AI wave is going bust anytime soon, especially given what the companies said on earnings, that they will spend close to 1.4 trillion dollars in 2026 and 1.5 trillion in 2027. As long as that continues, I think the wave continues and bond yields are likely to stay higher. If the AI wave goes bust, yields likely go lower, but be careful what you wish for, because then we go into a slightly lower growth environment.