Markets See Bush and Gridlock as Winners

The bond market got the electoral mandate it was hoping for: no mandate.

For consumers, that could be good news for mortgage rates in the near term and for other borrowing rates in the longer term.

Regardless of who ultimately wins the presidency, analysts said, Tuesday’s election was so close--and the Republican majorities in the House and Senate have been sliced so thin--that neither party will have the votes to push through an aggressive legislative program.

That means that a President George W. Bush would have to scale back his tax-cut proposals and a President Al Gore would have to reduce his social spending plans.

Both scenarios are considered good news for the Treasury bond market, which is concerned with keeping budget surpluses high and inflation pressures subdued.

“The uncertainty is now over. Nobody won,” declared Thomas Sowanick, chief fixed-income strategist at Merrill Lynch.

Yields on most Treasury securities eased slightly Wednesday.

In the days leading up to the election, longer-term Treasury yields had crept to their highest levels in more than a month, reflecting traders’ expectations of a Bush victory and an economy-stimulating tax cut.

After rising further early Wednesday, the benchmark 10-year T-note yield pulled back as investors concluded that even if Bush does win the White House, his most ambitious tax cuts are unlikely to fly. That reduces the risk that the economy could shift back into overdrive next year, threatening higher inflation--and higher interest rates.

The 10-year T-note yield ended the day at 5.86%, down from 5.87% Tuesday. Strong demand at a Treasury sale of $8 billion of new 10-year notes helped sentiment.

The acrimonious bickering between the President and Congress--and between Democrats and Republicans within Congress--is expected to give way to what Sowanick called a spirit of “genteel compromise,” where nothing very bold gets done.

If a big tax cut isn’t in the cards, for example, more modest measures might be enacted, such as reductions in estate taxes or elimination of the so-called marriage penalty, analysts suggested.

“Whoever wins is going to have to appeal to the more moderate wings [of Congress],” said Mario DeRose, bond strategist at brokerage Edward Jones in St. Louis.

Treasury bond investors and traders, who have pushed long-term yields sharply lower since the start of the year, want to see a significant portion of future budget surpluses used to continue retiring outstanding debt.

If Treasury yields stay down, that could keep mortgage rates down as well because the mortgage market takes its cue from the Treasury market.

Meanwhile, the outlook for yields in the corporate bond market, and for shorter-term consumer rates, depends more on investors’ perceptions of the economy’s direction in the near term.

Overshadowed by the election drama is next Wednesday’s Federal Reserve meeting. The central bank, in its three meetings since May 16, has held its key short-term rate steady at 6.5%. The Fed apparently is satisfied that its campaign of six straight rate increases ending in May has been enough to keep the economy from overheating and sparking inflation.

At each of those three meetings, however, the Fed has repeated its warning that the potential for inflation remains the main risk to economic growth and price stability.

With the stock market slipping and some parts of the economy clearly weakening, some Wall Streeters have been hoping the Fed would, if not actually cut rates, at least drop its “inflation bias” and adopt a neutral stance.

But that isn’t likely to happen, said Alfred Marshall, economist and bond strategist at IJL Wachovia in Charlotte, N.C.

The Fed hates its decisions to be seen as politically motivated, which might be a danger so soon after the election. Moreover, with the hoped-for economic “soft landing”--that is, a slowdown without a recession--still apparently on track, the central bank will probably feel no need to do anything but “sit on its hands,” Marshall said.