AOR Update: The Big Picture Beats Politics

Election Day has markets watching how divided Washington will be over the coming two years. A Democratic House is the consensus outcome, and markets increasingly expect Democrats to win the Senate as well. What remains unknown is the size of each potential majority, which will determine whether the next two years bring gridlock and brinkmanship, or a bipartisan spending deal. Regardless of the result, we believe above-trend economic growth, powerful earnings delivery and a historically strong post-midterm window could support a more durable rally for equities in the year ahead.

A Low Bar for House Democrats

History suggests there is a low bar for Democrats to retake the House of Representatives.  The president’s party has lost House seats in 18 of the 20 midterms since World War II, and both exceptions came when the president’s approval rating was in the 60% range.  Today looks very different than those exceptions, with President Trump’s approval rating sitting in the mid-to-high 30s, Republicans holding only a slim House majority and current polling favoring the Democrats. Prediction markets have largely priced this in with the odds that Republicans lose the House at roughly 90%.

The Senate is a closer contest, but momentum has shifted toward Democrats. Prediction markets now give them roughly a 65% chance of winning control, which would require a net gain of four seats. A Democratic sweep of Congress is no longer an unlikely scenario, which shifts the focus to the margin in each chamber.

Margins Matter More Than the Majority

Speaker Johnson’s tenure has shown how hard it is to run the House with a majority of fewer than five seats, and the Senate has recently offered a similar lesson. With a 50-50 split early in the Biden administration, Senators Joe Manchin and Kyrsten Sinema often held the deciding votes and used them to reshape major Democratic priorities.

When the margin is that thin, a few members can block legislation, extract concessions or stall the legislative agenda entirely. If the midterms leave either chamber with a similarly slim majority, it would likely bring gridlock and brinkmanship over government funding, a higher risk of shutdowns and little new fiscal legislation.

The Case for a Grand Bargain

If Democrats win both chambers with workable margins, a grand bargain between congressional Democrats and the White House could emerge. Democrats could back higher defense spending in exchange for fully restoring social programs. The One Big Beautiful Bill Act included more than US$1 trillion in cuts to Medicaid and SNAP over 10 years, and Democrats want to reverse them.

The lesson from the first Trump administration, when Democrats won the House in the 2018 midterms, could be a useful case study for what lies ahead. The two parties went on to pass the Bipartisan Budget Act of 2019, which raised both defense and nondefense spending caps and led the Congressional Budget Office to raise its 10-year deficit projection by US$1.7 trillion.

A deal is far from certain, however, as both sides would need to sell a compromise to their bases with 2028 in view, and any agreement would likely follow a stretch of grandstanding. A deal, if enacted, could lift nominal growth and benefit defense contractors, Medicaid-exposed health care providers and consumer businesses serving lower-income households. The trade-off is a larger deficit, which could keep upward pressure on long-term yields and strengthen the case for the Fed to move further into restrictive territory.

History Favors Investors After the Vote

Whatever the outcome, policy effects will likely show up only at the margin: modest tailwinds or headwinds for certain sectors rather than major changes for the broad index. For the S&P 500 Index, the most important thing has historically been simply getting past the midterms.

Since 1950, the S&P 500 has gained an average of 15.1% in the 12 months after the midterm election, which has tended to act as a clearing event. Every one of those 19 periods produced a positive return (see chart below). Stocks have typically benefited as election uncertainty dissipates, divided government limits big policy surprises and the post-midterm window overlaps with the third year of the presidential term, which historically has been the strongest stretch of the four-year cycle. Although past performance doesn’t guarantee future results, this seasonal tailwind is hard to ignore.

Exhibit 1: Post-US Midterm Election Stock Market Performance

12-Month S&P 500 Performance Following Midterms Since 1950

· In the 12 months following a midterm election, the S&P 500 has been up 15&% on average, historically.
· Since 1950, every 12-month period following the midterms has had a positive return.

Sources: S&P, FactSet. Past performance is not a guarantee of future results. Investors cannot directly invest in an index and unmanaged index returns do not reflect any fees, expenses or sales charges.

The Economy Is the Stronger Signal

Beyond the calendar, an even bigger reason for optimism comes from a robust economy that is gaining momentum. US gross domestic product grew at a 3.4% annualized pace in the third quarter, accelerating from 2.2% in the second quarter. Business investment led the way as the artificial intelligence buildout continues and steady consumer spending provided additional support. Our Recession Dashboard tells a similarly resilient story. Eleven of its 12 indicators are flashing expansionary green, with no changes in October, a reading that implies recession odds of only 15% over the next 12 months.

Exhibit 2: US Recession Dashboard

Data as of October 31, 2026. Sources: BLS, Federal Reserve, Census Bureau, ISM, BEA, American Chemistry Council, American Trucking Association, Conference Board, Bloomberg, CME Group, FactSet and Macrobond. The US Recession Dashboard was created in January 2016. References to the signals it would have sent in the years prior to January 2016 are based on how the underlying data was reflected in the component indicators at the time.

That economic momentum is showing up even more forcefully in corporate profits. S&P 500 earnings are on track for 30% year-over-year growth in the third quarter, which would mark a third consecutive quarter above 25%. Just as notable, estimates for both 2026 and 2027 continue to climb, bucking the typical tendency for forward estimates to drift lower over time. Rising earnings are what ultimately drive stock prices in the long run. 

Exhibit 3: EPS Earnings Robust

EPS Earnings Robust

*Typical path is 2012-2017, 2019 and 2022-2025; 2018 is excluded due to TCJA (Tax Cuts and Jobs Act) distortion; 2020-2021 is excluded due to COVID-19 pandemic distortion; percent change in US dollar EPS expectations. Data as of October 31, 2026.

Sources: FactSet, S&P. Past performance is not a guarantee of future results. Investors cannot invest directly in an index and unmanaged index returns do not reflect any fees, expenses or sales charges.

Big Picture > Politics

Putting it all together, prediction markets are decisively pricing a divided government scenario given the low bar in the House. However, history suggests that the size of the majorities will matter more for markets than which party wins control. A narrow Congressional majority would likely bring gridlock and brinkmanship, offering little new fiscal support while periodic shutdown scares add volatility. A Democratic sweep with healthy margins could yield a grand bargain that funds both parties’ priorities and adds a modest fiscal boost. That said, neither outcome changes the bigger picture with markets entering what has historically been a strong post-midterm period. Beyond that seasonal tailwind, we believe above-trend economic and earnings growth will overwhelm any election-related volatility to drive stocks forward in the year ahead.