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The US midterm elections saw the Democrats making substantial gains to win both the House and the Senate by a significant margin. Democrats won a Senate seat in Texas, their first since 1988, and in Kansas, for the first time in almost 100 years. When the new Congress convenes in January, this will be the first time the Democrats will have had control of both chambers of Congress since the first two years of Joe Biden’s presidency. This will also be the first time during any of President Trump’s administrations that the Democrats have held the House and the Senate. Control of both chambers would give the Democrats control of the legislative agenda, though this would still be subject to presidential veto. Democrats will have wide powers to investigate and subpoena members of the Trump administration. Trump told the New York Times he would accept the results and told Fox News that he was “a little surprised” but the Democrats “did a good job” and there are “many, many things” that he could work with them on. Trump said he would “block any insane legislation” proposed by the new Congress but “we will figure out how to get things done”.
US forces struck targets on Iran’s Qeshm Island in the Strait of Hormuz earlier in the week in what Washington described as a “defensive move” to protect US military assets in the Middle East. The strikes appeared to be limited in their scope and the prevailing mood this week has been one of optimism over a potential resolution of the conflict. President Trump told the Financial Times on Tuesday that the US has “no immediate plans” to strike Iran, playing down speculation of an escalation in the aftermath of the midterm elections. President Trump said the US was “easily winning” the war with Iran and that “they want to make a deal and that could happen”. Despite a rally yesterday, the oil price has seen significant declines over the course of the week, with Brent crude down 15.3% on optimism that a resolution of the conflict was more likely in the aftermath of the US midterm election outcome. Bloomberg reported that Iran’s President Masoud Pezeshkian had been granted more authority by Supreme Leader Mojtaba Khamenei to pursue peace talks, though major differences remain with Iran seeking the ending of the US naval blockade, sanctions eased and assets unfrozen (i.e. the terms agreed back in June).
The Middle East’s leading Arab oil producers are now shipping crude oil at about the same rate as before the war began according to Bloomberg data. Combined exports from Saudi Arabia, the UAE, Iraq, and Kuwait were up 10% to 15.53 million barrels/day in October, broadly in line with levels seen at the start of this year. The resurgence in supplies shows the success of covert shuttle runs by tankers through the Strait of Hormuz. Of course, the flow of oil is now less of an issue than the availability of refined products, with petrol and diesel prices still close to record highs.
The Bank of England raised interest rates by 25 basis points to 4% and signalled it is planning a further rate hike as soon as next month. The rate hike was the first since 2023 and saw the MPC vote 8-1 in favour of a 25 basis point increase, with one vote for a 50 basis point rate hike. The Bank forecast UK inflation would hit 5% in the second quarter of 2027 and not return to the 2% target until the third quarter of 2028. Governor Andrew Bailey said the “inflationary pressure in the pipeline” was sufficient to warrant a rate rise now, adding that “today’s increase shouldn’t be seen as the first in an inevitable long sequence of hikes… but unless the conflict in the Middle East is resolved, neither does it seem to be the last increase”. Bailey noted the slump in oil and gas prices this week but said there were already “significant inflationary pressures in the system” including an increase in household energy bills in January.
The Investment Lens
The US midterm election outcome has delivered an impressive victory for the Democrats, who have taken control of both houses of Congress. President Trump urged voters to act as though his name was on the ballot – as such this outcome is a significant rebuke to the President and his policies. Trump was elected in 2024 on promises that “inflation will vanish completely” and that the US would not be dragged into more foreign wars. The ongoing conflict with Iran, which has pushed US petrol prices up 40% year on year, has proved extremely costly from a domestic political standpoint, a fact acknowledged by both President Trump and Vice President JD Vance.
With inflation well above target, and outpacing US wage growth for the past six months, US consumers are reacting to higher prices much like they did when Joe Biden/Kamala Harris lost the 2024 election on the back of persistent inflation squeezing US consumers. It is positive to see that President Trump has accepted the result and has said there are “many, many things” he can work with Democrats on. Once the new Congress convenes, the Democrats will need to decide on their priorities – oversight and investigation of the Trump administration or proving their policy competence as the focus shifts to the 2028 presidential election and the post-Trump political era.
From a macro perspective history shows divided government is usually a positive backdrop in the sense that political gridlock means nothing much can get done. After initially rallying on Wednesday, yesterday saw a significant selloff in US equities, led by AI related stocks, on concerns the Democrats would slow the pace of the AI buildout. Around 40% of pending data centre capacity in the US is planned to be built in states where newly elected governors have promised to stop or pause such construction, according to Bloomberg. However, concerns over Congressional AI legislation need to be considered in the context that President Trump will still be able to veto legislation he does not favour. Markets have a history of rallying in the aftermath of the result almost irrespective of the outcome, and the third year of a presidential term is the strongest of all in terms of historical returns. But that does not mean we won’t see some volatility while markets get to grips with the Democrats’ policy intentions.
The US budget deficit and overall debt levels are also a concern as we move towards yet another debt ceiling. There is potential for Republicans to attempt to find a budget resolution before this congressional session ends in January. Otherwise, the process will become more volatile with political brinkmanship, and government shutdowns likely. The debt ceiling hard limit is still many months away though given the US Treasury can use special measures to fund ongoing day-to-day spending for some time to come, potentially stretching as far as late 2027.
What does this mean for markets? The past two years have shown that policy uncertainty and market volatility have decoupled, and that despite considerable political ‘noise’, markets have remained focussed on fundamentals – strong earnings growth and a solid economic backdrop. Should those two themes persist, then higher levels of political brinkmanship and drama out of Washington should not necessarily derail market momentum. Risk appetite could still fade for a number of reasons, but domestic policy gridlock in the US should itself be a positive backdrop for markets.
