The Midterms Are Over. So Is the Market’s Own ‘Big Lie.’

For too many years now, both investing and politics have lacked nuance. You either voted Republican or Democrat, preferred growth to value, or tech to industrials, with little in between. But there are suggestions of nuance entering the scene, and that could help both the stock market and politics feel a touch more normal.

Take the midterm elections. A “red wave” was predicted as pundits took the high-level view of party versus party, and big issues over little ones. That wave never materialized, as voters, perhaps more than in any election in recent years, demonstrated a willingness to vote across party lines.

In New Hampshire, Republican Gov. Chris Sununu beat Democrat Tom Sherman by more than 15 percentage points, while Democrat Sen. Maggie Hassan beat Don Bolduc by 9.12 percentage points. In Georgia, Republican Gov. Brian Kemp won the election by 7.6 points over Stacey Abrams, his Democrat challenger, while Republican Herschel Walker received about 35,000 fewer votes than Raphael Warnock, a 0.9-point gap. That race is now headed for a Dec. 12 runoff.

We don’t want to overstate the trend—there were still plenty of states that broke along party lines—but it’s clear that many voters put other priorities over party loyalty.

“The uncorrelated outcomes of elections across the U.S. reinforce the idea that, much like stocks in 2022, voters prefer governance and local-issue alpha over political party big-picture beta,” explains Evercore ISI strategist Julian Emanuel, who also notes that the equal-weighted
S&P 500 index
is outperforming the market-cap-weighted one in 2022—a sign that investors are willing to stray from the trends that had dominated the market.

The election might also mark the end of the “big lie”—Donald Trump’s claims that the 2020 election was stolen by Joe Biden, despite no evidence. While many election deniers kept their seats in the House, and a few new ones even won, many lost races that were very winnable. Pennsylvania saw both the governorship and the Senate go to Democrats over Trump-backed candidates, despite flaws that should have made them beatable. What’s more, most of the candidates who ran on election denial have gone quietly, without the lawsuits and claims of fraud that might have followed their poor showings. “The most extreme election deniers and Trump-enablers lost,” writes TS Lombard’s Steven Blitz.

For markets, it was also a week that saw a “big lie” finally appear to fall apart—that speculative assets benefiting from ultralow interest rates were worth the ridiculous sums that people have paid for them. We witnessed that in the collapse of Sam Bankman-Fried’s FTX, which caused Bitcoin to trade at its lowest level since 2020. It was also there in the poor relative performance of the original meme stock,
GameStop
(ticker: GME), which fell 1.5% this past week, even as the
Nasdaq Composite
surged 8.1%.

For years, stocks have been driven by themes like “disruption” and “emerging technologies,” which is easy to do when money is free and investors are willing to buy just about any story as long as it’s a good one. In a bear market, though, boring terms like profit and free cash flow take precedence over total addressable market and key performance indicators. It isn’t always as fun and exciting as hearing a CEO wax poetic about the utopian—or dystopian—future, but it does mean that digging into company fundamentals might actually pay off.

Now, we’re seeing “dispersion”—the term for a lack of correlation between stocks—showing up in the latest round of earnings reports, where results can differ markedly even in similar industries.
Uber Technologies
(UBER), for instance, gained 12% after reporting earnings on Nov. 1, while
Lyft
(LYFT) dropped 23% after reporting on Nov. 7. Similarly,
Pinterest
(PINS) gained 14% after reporting on Oct. 27, while
Snap
(SNAP) tumbled 28% after reporting on Oct. 20.

It’s hard to make judgments off any single report, but digging into the weeds, Morgan Stanley strategist Mike Wilson notes that the “high operational efficiency factor” has been outperforming, a sign that “expense management and operational efficiency (maximizing cash flow) is critical.” As it should be.

But the uptick in dispersion goes beyond earnings. Though correlation is still high, it’s starting to come down, says Dennis DeBusschere, chief market strategist at 22V Research, as the market begins to slowly dial back the most extreme risks to the U.S. and global economies. That should help bring correlations, which are above the 85th percentile over one- and six-month periods, down over time, a process that has already begun.

It isn’t that everything is suddenly hunky-dory—inflation is still far too high, despite the larger-than-expected decline in October’s consumer price index—but the need for even more extreme monetary policy appears lower now, as do the odds of a very deep recession to quash inflation. Historically, higher dispersion and lower correlation have been good news for companies like
Bank of America
(BAC),
Prudential Financial
(PRU),
Carrier Global
(CARR),
Pentair
(PNR), and
General Motors
(GM), DeBusschere explains.

“Correlations are so high now, it will still be a macro market,” he says. “But stock-picking is going to dominate in six months.”

And that means we can get back to what truly matters—thinking about fundamentals, solving problems, and identifying the strongest companies. Let’s hope it stays that way for a while.

Write to Ben Levisohn at Ben.Levisohn@barrons.com