Football Is Back, But the Real Contact Sport is the Election.

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Are you ready for some normalcy?

The return of the National Football League on Thursday evening gave the clearest sign of a semblance of normalcy amid the pandemic. The Kansas City Chiefs took on the Houston Texans, with a limited number fans in the stands instead of those goofy cardboard cutouts that occupy the seats at Major League Baseball games. And probably more relevant to many viewers, the Super Bowl champion Chiefs handily covered the point spread, with a 14-point victory over the Texans.

Investors, meanwhile, can contemplate the possible impact the return of pro football might have on the stock market. The shutdown of sports from Covid-19 starting last March sent erstwhile punters to trading equities and options as a substitute for betting on games. And assuredly, the biggest game is football, which accounts for the lion’s share of legal online wagering. Will they continue to day-trade cheap out-of-the-money short-term calls or return to betting on Sunday’s game? Given they probably have apps for both on their phones, they’ll trade during market hours and switch to sports for game time.

Deciding if the favorite will cover the spread surely is simpler than figuring out this stock market. Who would have thought two of the major indexes would set new highs after the sharpest contraction in the U.S. economy on record owing to the pandemic? And amid the most acute social unrest since the turbulence of the 1960s? And during what could be the most contentious presidential election campaign in over a century?

But the market suddenly turned turbulent starting on the Thursday before last, perhaps from the effect of the unwinding of bullish options bets, which appeared to help inflate further the big technology stocks that have dominated the market’s rally. There are other, more fundamental factors to consider along with this technical one, however.

There is the matter of the election. The RealClear Politics average of opinion polls has narrowed but shows former Vice President Joe Biden with a 7.5-percentage-point lead over President Donald Trump. RealClear Politics’ average of betting sites put the two candidates in a virtual dead heat at the end of August after the Republican National Convention, but Biden’s lead was about in line with the site’s average of polls late this past week.

Confidence in polls isn’t great after they predicted Hillary Clinton would win the White House four years ago. Even if the polls are correct this time in their prediction of a Biden win, most observers think the margin is apt to be narrower than what they’re showing now.

For the stock market, the 10 close elections in the post-World War II era have seen selloffs in the six to seven weeks before the election, according to a research note from

Deutsche Bank’s

strategists led by Binky Chadra. “We see this as reflecting the relatively classic buildup of an uncertainty risk premium, with increased buying of protection for potential volatility as the calendar date of the election approached,” they write.

Investors should brace themselves for Election Week or Weeks, rather than Election Day, according to a

J.P. Morgan

client conference call. No clear winner may emerge on the night of Nov. 3 or even early the next morning, given the extra time that may be needed to tally mail-in ballots.

A contested election would likely send stocks lower, as my colleague Jack Hough posited a couple of weeks ago. The flap over hanging chads on Florida ballots in 2000, which ultimately had to be decided by the Supreme Court in Bush v. Gore, trimmed 5% from the

S&P 500 index.

That might be a mild response if an uncertain election outcome sparks civil unrest. Extreme polarization already has been starkly evident, says Matthew Gertken, geopolitical analyst for BCA. Late last year, he wrote about what he called “Civil War Lite” fueled by either disillusionment on the left from the centrist Biden capturing the Democratic nomination (which he expected then) or backlash on the right from a Trump defeat. Covid and the sharp rise in unemployment have brought forwardthese tensions, he says.

Despite the sometimes violent demonstrations over racial inequality, the stock market recovered from its plunge earlier this year, in large part owing to the prompt and forceful responses by the Federal Reserve and the $2 trillion-plus fiscal infusion from the Cares Act.

Now, by contrast, Gertken sees the greater threat to the market coming from the failure of Congress to provide further fiscal stimulus, with a Republican “skinny” bill blocked on Thursday by Democrats seeking a bigger package. The GOP may feel little pressure, given the recovery in economic numbers and the financial markets, but he says they may be “on thin ice” if the economy falters.

Beyond the dip in the Nasdaq, the commodity markets are sending warning signals with the renewed weakness in crude oil after the U.S. benchmark plunged below $40 a barrel for the first time since June. Lumber futures, which had nearly tripled from their spring lows amid strong housing demand, fell over 20% in the three days through Thursday. Peter Atwater writes in his Financial Insyghts letter that lumber was a better mood indicator than even

Apple

(ticker: AAPL) or

Tesla

(TSLA) for the K-shaped recovery. Three limit-down days through Thursday in the active November contract this past week shows no buyers on the dip, which he warns could spread to the small options speculators.

The Deutsche Bank strategists, meanwhile, find close elections have been followed by strong rallies averaging 5%, regardless of which party wins, as hedges against political risk are closed out. Futures on the

Cboe Volatility Index,

or VIX—also known as the market’s fear gauge—show expectations of increased volatility through October and diminished postelection volatility through December. Given the likely rise in voting by mail and the controversy over it, they suggest the market may be too sanguine pricing in a normal voting outcome, so they advise protecting portfolios into December.

The sports world seems to be the only place a modicum of normalcy is returning.

Write to Randall W. Forsyth at [email protected]