Which Stocks Could Win, Lose in Election

A referendum on the economy and Iraq, the results will also directly affect stocks in various sectors.
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Editor's note: This column by Doug Kass is a special bonus for RealMoney readers. It first appeared on Street Insight on Nov. 6 at 8:16 a.m. To sign up for Street Insight, where you can read Kass' commentary in real time, please click here.

It's been a season of unusually hateful and offensive attack campaigns filled with tiresome cliches by both parties, in which every gaffe or outrageous TV ad immediately appears for all to watch on YouTube (most notably in

Tennessee,

New York,

Massachusetts and

New Jersey).

Voters are disillusioned with these campaigns, and there are increasingly anti-big-business sentiments, a hunger for change reflecting the economic anxiety facing middle-income and working-class Americans and a growing unpopularity of the war in Iraq. As a result, the general turnout tomorrow will be relatively low by historic standards and will be skewed substantially toward a better turnout among Democrats vs. Republicans.

Stated simply, the Democrats are energized, while the Republicans are not. (This is particularly true for the religious right.) In marked contrast to 2004, the lack of participation by the conservative wing of the Republican Party (after a succession of moral issues with

former Rep. Mark Foley and now

Rev. Ted Haggard) suggests that the schism between "profit and pulpit" within the GOP will be the most significant single development affecting the 2006 campaign.

Republican Party on the Defensive

The 2006 election will be a referendum on the economy and on Iraq. Inflation in food prices, tuition expenses, health insurance premiums, sky-high

home insurance premiums and the loss of American jobs (according to the AFL-CIO, 40,000 U.S. plants have been closed and about 3 million manufacturing jobs have been lost) seem likely to strike a chord with the electorate.

Then there is Iraq, which has become a foreign-policy Hurricane Katrina. Importantly, the Republicans' attempt to make Iraq only part of the terrorist issue has failed. In the six previous wartime elections, the incumbent party has lost power. The YouTube election of 2006 will be no different.

Other influences that will likely put the GOP on the defensive include the lack of progress toward energy independence, the Katrina fiasco, border insecurity and even the uncontrollable fires in the West.

A Democratic House win is nearly a foregone conclusion, with between 20 and 25 net seat adds likely. (It needs 15 net wins.) However, the potential for a Democratic "tsunami" exists in which the Democrats could pick up more than 35 net seats.

The Senate race looks closer. The Democrats need to take six additional seats, but I think they'll squeak by and gain control of the Senate with a one-vote majority. Look for key Democratic wins in Pennsylvania, Rhode Island, Ohio, Montana, Virginia and Missouri and key Republican wins in Arizona and Tennessee. Connecticut will go to Joe Lieberman, who caucuses with Democrats despite the previous election. A sweep in the House and Senate is my baseline outcome for tomorrow night.

Stock Market Ramifications

Arguably, an elevated equity market appears to be underpricing several of the aforementioned emerging political developments and themes. Therefore, it's vulnerable to the perception of new anti-business legislative initiatives that are likely subsequent to a Democratic win.

My baseline outcome of a sweep will probably result in an immediate market swoon and a great deal of economic uncertainty at a time when growth is flailing. A split of the House and Senate would have a more muted impact.

Especially vulnerable sectors in a Democratic "tsunami" would be energy (

Oil Services HOLDRs

(OIH) - Get Report

), Big Pharma (

Pharmaceutical HOLDRs

(PPH) - Get Report

) and defense (

PowerShares Aerospace & Defense

(PPA) - Get Report

).

Also, tobaccos (

Altria

(MO) - Get Report

) and high-end retailers (

Polo Ralph Lauren

(RL) - Get Report

,

Tiffany

(TIF) - Get Report

and

Retail HOLDRs

(RTH) - Get Report

) will likely be pressured.

By contrast, environmental-related securities (

Johnson Controls

(JCI) - Get Report

,

Clean Harbors

(CLHB)

,

Medis Technologies

(MDTL)

and

PowerShares WilderHill Clean Energy

(PBW) - Get Report

) and government-sponsored agencies (

Freddie Mac

(FRE)

and

Fannie Mae

(FNM)

) will get a lift.

In either outcome (a Democratic win in either the House or Senate, or both), the net impact on the equity market doesn't appear to be positive.

At time of publication, Kass and/or his funds were short Polo Ralph Lauren, Tiffany and Retail HOLDRs, although holdings can change at any time.

Doug Kass is general partner for two investment partnerships, Seabreeze Partners L.P. and Seabreeze Partners Short L.P. Until 1996, he was senior portfolio manager at Omega Advisors, a $4 billion investment partnership. Before that he was executive senior vice president and director of institutional equities of First Albany Corporation and JW Charles/CSG. He also was a General Partner of Glickenhaus & Co., and held various positions with Putnam Management and Kidder, Peabody. Kass received his bachelor's from Alfred University, and received a master's of business administration in finance from the University of Pennsylvania's Wharton School in 1972. He co-authored "Citibank: The Ralph Nader Report" with Nader and the Center for the Study of Responsive Law and currently serves as a guest host on CNBC's "Squawk Box." Kass appreciates your feedback;

click here

to send him an email.