The Midterm Elections In The U.S. Could Impact Commodities Prices

by: Andrew Hecht

Dollar volatility.

Energy policy- A point of contention.

Infrastructure rebuilding- Both sides want to rebuild America, but neither wants the other side to take credit.

Agricultural commodities and trade disputes are in the spotlight.

The stock market tends to like gridlock, but infrastructure and other initiatives will stall.

Despite a booming economy, the United States remains deeply divided along political lines as the nation heads to the polls on Tuesday. The midterm election will serve as a referendum on the success of President Donald J. Trump, the unlikely winner of the 2016 Presidential contest. The President has stirred emotions on both sides of the political spectrum, and his policies have reverberated around the globe. His campaign slogan “Make America Great Again” has had significant ramifications for trade with partners around the world and the domestic state of the nation with the world’s leading GDP.

The latest GDP numbers displayed an economy growing by 3.5%. Unemployment is at the lowest level in decades at 3.7%. However, many Americans and a hostile press remain opposed to the leader of the free world, and his party is in jeopardy of losing majorities in both the House of Representatives and the Senate which would impact the administration’s agenda for the second half of President Trump’s first term in office.

The results of the midterm elections are likely to have a significant effect on markets across all asset classes. Commodities tend to be the most volatile markets and a continuation of the present course or gridlock over the coming two years could cause adjustments in raw material prices.

The Invesco DB Commodity Tracking ETF (DBC) is a diversified product that holds positions in many commodities futures contracts. The future course of U.S. policies could move markets over the coming days, weeks, and months. In many ways, the next two years will be the result of Tuesday’s election.

Dollar volatility

Elections have a way of providing surprises to markets these days. The 2016 Presidential contest in the U.S. and the Brexit referendum in the U.K. both shocked markets across all asset classes. The market had expected Brexit to fail and doubted that President Trump would emerge victorious over the favorite in the election, Hillary Clinton.

As we go into the midterm elections in the U.S. on Tuesday, market expectations are for the Democrats to take control of the House of Representative and retain a majority in the Senate. Any results that deviate from expectations could cause volatility in the dollar which is going into the election at close to the highest level since June 2017.

Source: CQG

As the weekly chart highlights, the dollar index traded to a high of 96.98 last week which was the highest level for the greenback of 2018. Weekly historical volatility at 4.84% is low and could increase if there are any surprises after the result of the election. The dollar has been moving higher on the back of a widening gap between U.S. short, medium, and long-term rates and those in Europe and other countries around the world. Economic data continues to support the path of tightening by the Federal Reserve which puts an upward bias on the dollar. However, the administration wants to keep a lid on the greenback to make American goods more competitive in global markets. The next level of technical resistance for the dollar index is at the 97.70 level dating back to the week of May 29, 2017. Above there, the 100 level stands as a critical technical target on the upside.

The path of least resistance for the dollar over the rest of 2018 and into 2019 will have a significant impact on the prices of commodities. A stronger dollar tends to weigh on raw material prices while a weaker greenback would be a supportive factor for the asset class. We could see an increase in volatility in the currency markets if we get any surprises on election day in the United States.

Energy policy- A point of contention

The Trump administration has been highly supportive of the oil and gas business in the United States. A combination of tax reform and fewer regulations have caused the production of energy commodities to rise to record levels. In the oil market, the U.S. is now producing around eleven million barrels of crude oil each day making it a member of a select club of three oil producing nations leading the world in output alongside Saudi Arabia and Russia. When it comes to natural gas fewer regulatory hurdles, has increased the production of gas from the Marcellus and Utica shale regions which are home to quadrillions of cubic feet of reserves. The current regulatory environment has encouraged hydraulic fracking which releases natural gas from the crust of the earth.

The opposition party has advocated for tighter regulations in the energy arena to combat global warming and climate issues facing the world. President Trump has refused to cooperate with international efforts on climate change. If the Democrats take control of both houses of Congress on election day, it will put a roadblock in front of the current administration’s efforts that favor energy production. Even a victory in the House of Representatives could put roadblocks in front of the Trump administration when it comes to the program of energy independence and the continuation of unleashing American oil and gas production.

The future of U.S. energy independence depends on government support for the industry. Therefore, a shift in the balance of power in Washington DC could limit or impede the trend toward self-sufficiency in oil and gas production.

Infrastructure rebuilding- Both sides want to rebuild America, but neither wants the other side to take credit

On the campaign trail in 2016, President Trump pledged to rebuild America’s crumbling infrastructure with a massive economic package to repair and rebuild roads, bridges, tunnels, airports, and other areas of the nation that have not seen funding in decades. While the President has followed through on many of his campaign promises and fulfilled pledges, the administration has not yet gotten around the addressing infrastructure.

On the other side of the political aisle, there is support for infrastructure rebuilding. However, the Democrats and Republicans in the House and Senate disagree on how to fund the necessary projects. It seems that both sides want to rebuild the U.S., but neither sides wish to cede credit to the other when it comes to the politics involved in accomplishing the goal.

While it is possible that a bipartisan agreement to address infrastructure needs could come from a politically divided government, it is more likely that a win by the Democrats in the midterm election will give way to more roadblocks when it comes to concrete accomplishments. The politics could cause the Democrats to stall in the hopes of winning the Oval Office in 2020 where they could take credit for infrastructure rebuilding. Moreover, the Republicans will argue that any move to address infrastructure by the opposing party will result in higher taxes which will undo the reforms put in place by the Trump Administration and the majorities in Congress over the past two years.

When it comes to commodities, industrial metals, minerals, and energy requirements for any massive infrastructure rebuilding program in the United States will increase demand for the raw materials which could put upward pressure on many of the commodities prices that have been falling over the recent weeks and months under the weight of a rising dollar and increasing interest rates.

Agricultural commodities and trade disputes are in the spotlight

The current trade dispute with the Chinese could come under the microscope of the legislature if the balance of power shifts in Washington DC as a result of the midterm elections. Presidents Trump and Xi will meet at the G-20 gathering in Argentina later this month. Meanwhile, the Chinese are likely to use the results of the midterm election to formulate their approach to the trade issues dividing the two sides. A victory by the Democrats Tuesday would likely cause China to take a more aggressive approach to trade as they will perceive the political change as a sign of weakness for President Trump. On the other hand, if the Republicans hold onto majorities in the legislature, the Chinese could come to South America ready to strike a bargain and compromise on trade.

The United States is the world’s leading producer and exporter of corn and soybeans and a significant producer of other agricultural commodities. The trade skirmish with the world’s most populous nation and leading consumer of all agricultural commodities caused the price of soybeans to decline to its lowest level in a decade over the past months with the prices of other agricultural products following on the downside. China canceled all purchases of soybeans from the U.S. for 2018 and 2019 as retaliation for tariffs on Chinese goods flowing into the U.S.

A trade deal with the Chinese would likely cause a rebound in the prices of many agricultural commodities as the business would go back to pre-trade issue levels. However, a victory by the opposing party this week could lead the Chinese to dig in their heels on trade and wait for U.S. capitulation as China would be in a position to take advantage of leadership in Congress that would be hostile to any initiatives by President Trump.

The stock market tends to like gridlock, but infrastructure and other initiatives will stall

In the past, the U.S. stock market has thrived during periods of political gridlock, but past performance is never a guaranty of future results in markets. Over the past two years, the Trump administration has pushed through many initiatives fulfilling pledges made on the campaign trail during the Presidential election of 2016. It is possible that a victory by the Democrats and new leadership from the other side of a deeply divided political spectrum in the U.S. will lead to a period of gridlock and an effort to either impeach or unseat the sitting President in the 2020 election. A victory by Democrats will empower the party after two years as back-benchers in the U.S. political arena. It is a good bet that gridlock in Washington will cause any initiatives that cannot be achieved by executive order to stall.

Whatever happens in the midterm elections, there is one thing that is certain to occur in the immediate aftermath of Tuesday’s election. The 2020 campaign for the Presidency will kick into high gear on Wednesday as the U.S. goes from one election cycle to the next in seamless fashion. Over the coming weeks and months, candidates to replace President Trump will announce their intention to run. The President may even face a challenge from within his party in the next election, and there is no guaranty that he will seek a second term. If the Democrats take both houses of Congress, President Trump could take the result personally and decide to walk away with only one term under his belt and a list of accomplishments during his first two years in office.

Markets across all asset classes reflect economics and politics when it comes to the path of least resistance of prices. In the world of commodities, there is a lot at stake in the midterm elections in the energy, agricultural, and industrial commodities sectors. It is possible that we will see increased volatility in the commodities asset class following the midterm elections. A continuation of the status quo leading to economic growth could increase inflationary pressures and the demand for raw materials. Gridlock could have the opposite effect on the economy.

The Invesco DB Commodity Tracking ETF (DBC) will serve as a barometer for commodities prices over the coming weeks and months as the effects of the midterm election and other events cause commodities prices to move. I expect lots of volatility in the raw materials asset class as the Fed prepares to hike rates and the trade dispute with China remains on the center stage. The fund summary for DBC states:

The investment seeks to track changes, whether positive or negative, in the level of the DBIQ Optimum Yield Diversified Commodity Index Excess Return™. The fund pursues its investment objective by investing in a portfolio of exchange-traded futures on Light Sweet Crude Oil (WTI), Heating Oil, RBOB Gasoline, Natural Gas, Brent Crude, Gold, Silver, Aluminum, Zinc, Copper Grade A, Corn, Wheat, Soybeans, and Sugar. The index is composed of notional amounts of each of these commodities.

The top holding of the ETF product includes:

Source: Yahoo Finance

DBC is trading at close to the lowest level in a dozen years as inflationary pressures have not yet had a significant impact on commodities prices.

Source: Barchart

As the chart shows, DBC has traded in a range from $11.70 to $46.63 since 2006 and was at the $16.87 level on Monday, November 5.

The outcome of the midterm elections in the United States this Tuesday could cause volatility in markets across all asset classes. Commodities tend to be the most volatile of all, so fasten your seatbelts for what could be a wild ride. DBC will act as a barometer for the effect of the election on the commodities asset class.

There is one thing that both political parties in the U.S., political junkies, and those who are sick of the campaigns will agree on as the midterm elections come to an end on Tuesday. The process will start again on Wednesday as another contentious Presidential election cycle will begin, and the vote is only two short years away.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The author always has positions in commodities markets in futures, options, ETF/ETN products, and commodity equities. These long and short positions tend to change on an intraday basis.