Stocks: Playing the 2008 Election

The fates of various industries depend on who becomes the next President. Who benefits? Who suffers? Here, insights from a slew of top investors

As the U.S. Presidential campaign kicks off, Wall Street is watching every primary and caucus result closely, hoping to make money no matter who Americans choose as their next leader.

Investment houses are digging deep into each candidate's policy statements, trying to predict his or her Presidency's effect not just on the economy and market as a whole, but on specific stocks and sectors such as health care, defense, and energy.

Might a push to fight global warming—most likely by a Democrat—hurt utility stocks but help solar companies? Does a Republican victory help the health-care sector, where investors are already worried about lower profits under a Democratic universal health-care plan?

Such questions abound. We asked more than a dozen fund managers, investment advisers, and analysts for their thoughts regarding how the 2008 election will affect stocks. They offered differing theories on how stocks generally perform in an election year. Many echoed partisan arguments, debating whether Democratic or Republican policies better help the economy in the long term.

And some dismissed a lot of this speculation outright.

"The overriding influence on the stock market is the economy," says Bryant Evans of Cozad Asset Management. The effects of the government on the economy are complex and hard to predict. Plus, when candidates become Presidents, they're often forced by politics or new events to shift their priorities in unpredictable ways, he adds.

Partisan Consequences

Still, as the political cliché goes, "Elections have consequences." If they didn't, industries wouldn't pour so much money into election campaigns. Presidential candidates have already raised almost $420 million, a number that probably will exceed $1 billion by the November election.

Analysts are paid to think about the consequences of each political development: At the Jan. 3 Iowa caucuses, Keefe, Bruyette & Woods (KBW) analyst Brian Gardner noted that almost twice as many Democrats showed up to caucus as Republicans, despite the fact Iowa is a swing state that President George W. Bush won four years ago. That Democratic strength might hurt private student loan companies (because Democrats favor direct government lending) but help government-sponsored enterprises such as Fannie Mae (FNM) or Freddie Mac (FRE), he wrote.

The most obvious consequence of a Democratic victory could be in health care, where all the Democrats are proposing some kind of universal health-care coverage. "That casts a cloud over the health-care sector," says William Rutherford of Rutherford Investment Management. To pay for the uninsured, Democrats will want to cut costs, and that could mean narrower profit margins for everyone in the sector, from hospitals to pharmaceutical companies to insurers. The one exception may be firms that use technology to cut costs. Rutherford cites Express Scripts (ESRX).

Defense Spending

With most of its revenue coming from taxpayer money, the defense sector is also closely watching the election. Democrats John Edwards, Barack Obama, and Hillary Clinton all have plans to withdraw all or most troops from Iraq, while most Republicans support a bigger military presence around the world (Ron Paul being a notable exception).

But even if withdrawal from Iraq happens, few expect either party to actually cut defense spending overall. "No matter who wins, more is going to be spent on defense because of the mess we're in," says Brant Keller of FAC Wealth Management.

If the new President can find a way out of Iraq, "Is there an impact? Maybe, but it may not be as much as conventional wisdom" believes, says James McIlree, a defense analyst at Collins Stewart (CLST).

It could take years before the new President can put a stamp on defense spending, and, though spending on Iraq might fall in any Administration, spending may increase on bipartisan priorities like intelligence technology. "Our system is built for gradual change," McIlree says.

Energy Levels

On energy, alternative energy producers—including farmers whose corn is turned into ethanol—have already benefited from federal policy. That may continue under either party, with nearly all candidates talking about the importance of gaining more independence from expensive foreign oil.

Democrats, however, are more likely to worry about global warming, possibly helping solar companies such as First Solar (FSLR) but hurting others like utilities or heavy industry outfits that emit a lot of greenhouse gases. Republicans may renew their push for more domestic oil exploration, which could help Transocean (RIG) and other drilling firms.

Democratic Concerns

The companies on Wall Street itself have reasons to worry about a Democratic Administration. That's one reason why, though there are a few high-profile liberals here and there, the financial industry has a decidedly conservative ideological bent. Financial-services firms are worried about "more regulation, more control, and at the same time higher taxation," says Walter Gerasimowicz of Meditron Asset Management.

Republicans such as Mitt Romney and John McCain would like to make President Bush's tax cuts permanent and perhaps cut rates further. (Of course, Mike Huckabee's "Fair Tax" plan shows the GOP is not unanimous on the issue.) Democrats want tax cuts aimed at the rich to expire, which has the financial sector worried about the future of the estate tax and taxes on dividends and capital gains. Hedge funds—with Blackstone Group (BX) as a prime example—could also be subject to higher taxes under a Democratic President.

The Status Quo

So how much should investors adjust their portfolio as the campaign grinds on?

Bruce Bittles, chief investment strategist at Robert W. Baird, warns against making too much of the election. "The market really is bipartisan," he says. It has done just as well under Republicans and Democrats.

However, unlike many voters and candidates this year trumpeting "change," the stock market prefers the status quo. Thus, expect the market to be hurt if it looks like Republicans are set to lose the White House, he says.

Bull or bear, donkey or elephant, 2008 promises to be an interesting ride for Wall Street.