Key to second-half market rally? Tea Party

Second-half market rally? Tea Party members may well hold the key. Indeed, growing dissatisfaction among conservatives and independents with U.S. President Barack Obama before this year's elections is good news for stock investors, if history is any guide. The Standard & Poor's 500 Index has surged 48 percent on average starting in the second year of each U.S. presidential term, measured from its lowest level through the high the next year, according to data going back to 1928 compiled by Bloomberg. That compares with trough-to-peak gains of 38 percent in other years. An advance this year would come after Obama already presided over the biggest rally during the start of a presidency since Franklin D. Roosevelt in the 1930s. With the Tea Party throwing its considerable political weight behind fiscally conservative candidates, political futures market Intrade now shows a 55 percent chance Republicans will take control of the House, enabling them to block Obama's policies. That may help prevent a bear market after equities tumbled as much as 17 percent in the past two months, says billionaire Kenneth Fisher. “I envision a rally from before the midterm elections,” said Fisher, who oversees $35 billion in Woodside, California, as chief executive officer of Fisher Investments. “Markets love gridlock. What the market wants to see is no change: less legislation that engages in changes in taxes, spending, regulation or property rights.” The S&P 500 slipped 1.2 percent to 1,064.88 last week, after revenue at Charlotte, North Carolina-based Bank of America Corp. and General Electric Co. in Fairfield, Connecticut, trailed analysts' estimates. The stock index climbed 0.6 percent to 1,071.25, paring its year-to-date loss to 3.9 percent. Republican Majority The benchmark measure for U.S. equities has advanced 15 percent on average in years when there was a Democratic president and Republican majority in Congress, the most of any combination, according to Strategas Research Partners. Republicans will gain 40 to 50 House seats in November, based on historical trends including times when presidential support falls to Obama's current level, New York-based Strategas said. Obama has a job approval rating of 52 percent, according to a Bloomberg National Poll of 1,004 U.S. adults. Odds that Democrats will lose their Senate majority are 18 percent, according to Intrade, a prediction market based in Dublin. Republicans must win at least 40 seats in the House and 10 in the Senate during the Nov. 2 elections to take control. Erosion of Power “The current thinking is that the administration is punitive towards business and any erosion of power in Congress would create an environment that's less punitive,” said Walter “Bucky” Hellwig, a Birmingham, Alabama-based senior vice president at BB&T Wealth Management, which oversees $17 billion. “From the standpoint of a lot of investors, that would certainly help equities.” The S&P 500 gained 6.7 percent in the 12 months after the 2006 midterm election, when Republicans and President George W. Bush lost control of both houses of Congress. In the 1994 congressional elections under President Bill Clinton, Democrats gave up their majority in the House and Senate. That preceded the S&P 500's 34 percent surge in 1995, the biggest in 37 years, data compiled by Bloomberg show. Losing seats may make it harder for Obama to scale back Bush's tax cuts to boost revenue and pay down the budget deficit. Democrats are seeking to raise taxes on dividends and capital gains and end breaks for Americans earning $250,000 or more. Obama signed the largest change in U.S. health-care policy in 45 years into law in March, enacting a $940 billion plan to extend coverage to tens of millions of uninsured Americans. ‘Uncomfortable' “The market has been uncomfortable with the pace of the legislative agenda this year,” said John Canally, a Boston- based investment strategist and economist at LPL Financial, which oversees $285 billion. “Republican control of the House could usher in some gridlock and slow the pace. The view of the market is that Washington is pushing a little too far.” The S&P 500 sank 8.1 percent in the three weeks after Jan. 19 as Obama proposed legislation to limit risk-taking at banks and prevent a collapse of the financial system. Better-than- estimated profit reports then spurred a 15 percent rise through April 23. That extended the rally for the first 15 months of Obama's presidency to 43 percent, as the government spent, lent or guaranteed as much as $12.8 trillion to pull the country out of its longest recession since the Great Depression. Spending cuts to trim record budget deficits may now curb further gains in stocks, according to Jason Pride, director of investment strategy at Glenmede. Presidential Cycle “The U.S. is going to have to deal with its debt issues, so we see that as a constant wall that the market and economy is going to have to slowly find its way through,” said Pride, whose Philadelphia-based firm manages $18 billion. “I don't think you should make an entire investment decision on the presidential cycle.” The White House is scheduled to release an updated 2010 U.S. deficit forecast on July 23. It predicted a record budget shortfall of $1.6 trillion in February, compared with a $1.4 trillion gap last year. More than half of Americans say the deficit is “dangerously out of control,” according to results from the Bloomberg National Poll conducted July 9-12. Obama has pledged to cut the 2009 deficit in half in five years. Concern that the economic recovery is faltering pushed the S&P 500 down to the lowest level in 10 months on July 2. New U.S. home sales fell to a record low in May and reports on manufacturing and consumer confidence trailed the median forecasts from economists in Bloomberg surveys, has trimmed the S&P 500's gain since March 2009 to 57 percent. Most Since 1995 Worse-than-estimated revenue from Bank of America, the largest U.S. lender, and GE, the world's biggest maker of jet engines and medical-imaging equipment, sent the S&P 500 down 2.9 percent on July 16, wiping out the week's advance. Companies in the benchmark index for U.S. equities are projected to increase profit by 34 percent in 2010 and 17 percent in 2011, the fastest two-year gain since 1995, according to analysts' estimates compiled by Bloomberg. The Bloomberg National Poll showed Americans still disapprove of Obama's handling of almost every major issue and are pessimistic about the nation's direction, presenting an opportunity to Republicans in November. “Midterm years have an historic tendency,” said Sean Clark, chief investment officer of Clark Capital, which oversees $2.1 billion in Philadelphia. “The market doesn't like when one party or the other has control of both the executive and legislative branches. Business leaders are very much paralyzed waiting on a definitive set of rules.” ‘Huge Election' The U.S. Senate passed an overhaul of financial-industry regulation on July 15 that creates a consumer bureau at the Federal Reserve, a council of regulators to monitor firms for systemic risk to the economy and a mechanism for liquidating financial firms whose collapse would threaten the economy. Most Senate Republicans voted against the measure, saying it doesn't go far enough to prevent future taxpayer-funded bailouts of Wall Street firms. White House spokesman Robert Gibbs said the Obama administration will promote the biggest change in banking regulation since the Great Depression during the midterm elections. “I see a rally into year-end,” said Louis Navellier, who oversees $2.5 billion at Navellier & Associates Inc. in Reno, Nevada. “It's going to be a huge election. The people who are going to vote are the people who are mad. Independents and Republicans are mad. There's going to be a big shift.”