Cover Story
Why the Republicans will hang on to both the House and Senate on Nov 7 - and what it will mean for stocks.
Jubilant Democrats should reconsider their order for confetti and noisemakers. The Democrats, as widely reported, are expecting GOP-weary voters to flock to the polls in two weeks and hand them control of the House for the first time in 12 years - and perhaps the Senate, as well. Even some Republicans privately confess that they are anticipating the election-day equivalent of Little Big Horn. Pardon our hubris, but we just don't see it. €) Our analysis-based on a race-by-race examination of campaign-finance data-suggests that the GOP will hang on to both chambers, at least nominally. We expect the Republican majority in the House to fall by eight seats, to 224 of the chamber's 435. At the very worst, our analysis suggests, the party's loss could be as large as 14 seats, leaving a one-seat majority. But that is still a far cry from the 20-seat loss some are predicting. In the Senate, with 100 seats, we see the GOP winding up with 52, down three We studied every single race - all 435 House seats and 33 in the Senate - and based our predictions about the outcome in almost every race on which candidate had the largest campaign war chest, a sign of superior grass-roots support. We ignore the polls. Thus, our conclusions about individual races often differ from the con ventional wisdom. Pollsters, for instance, have upstate New York Republican Rep. Tom Rey nolds, trailing Democratic chal lenger Jack Davis, who owns a manufacturing plant. But Rey nolds raised $3.3 million in cam paign contributions versus $1.6 million for Davis, so we score him the winner.
Likewise, we disagree with pollsters of both parties who see Indiana Republican Rep. Chris Chocola getting whomped by Democratic chal lenger Joe Donnelly, a lawyer and business owner from South Bend. Chocola has raised $2.7 million, versus $1.1 million for Donnelly. Ditto in North Carolina, where we see Republican Rep. Charles Tay lor beating Democrat Heath Shuler, a former NFL quarter back, because of better financ ing. Analysts from both par ties predict a Shuler upset.
Is our method reliable? It certainly has been in the past. Using it in the 2002 and 2004 congressional races, we bucked conventional wisdom and cor rectly predicted GOP gains both years. Look at House races back to HJ72 and you'll find the candidate with the most money has won about 93% of the time. And that's closer to 98% in more, recent years, ac cording to the Center for Re sponsive Politics. Polls can be far less reliable. Remember, they all but declared John Kerry president on Election Day 2004.
Our method isn't quite as ac curate in Senate races: The cash advantage has spelled vic tory about 89% of the time since 1996. The reason appears to be that with more money spent on Senate races, you need a multi-million-dollar ad vantage to really dominate in· advertising, and that's hard to come by.
But even 89% accuracy is high compared with other gauges. Tracking each candidate's funding is "exceptionally valuable because it tells you who has support;" says William Morgan, executive director of the renowned Mid-West Political Science Association in Bloomington, Ind. The cognoscenti, he says, give the most money to the candidate they believe has a good chance of winning.
We found no shortage of people to challenge us. They argue that money doesn't make a difference when the elector ate is as worked up emotionally, as it is this year. John Aldrich, a professor of political science at Duke University who writes ex tensively about elections, says that a candi date really doesn't need the most money to win; he merely requires enough cash to get his message across. Aldrich believes Demo crats will win this year with less money because they won't have to. spend so much to persuade voters to switch horses.
"The support for the president, the Con gress and incumbents is relatively low by historical standards," he says. In fact, a new Wall Street Journal/NBC News Poll says voter disgust with Congress is the low est in the survey's 17-year history.
It's true that our formula isn't fool proof. In 1958, 1974 and 1994, the wave of anti-incumbent sentiment was so strong that money didn't trump voter outrage. We appreciate that voters in 2006 are hop ping mad at the GOP because of the war and because of scandal. We just don't agree that the outrage has reached the level of those earlier times. The reason is that the economy in 2006 is healthier. And the economy is the only other factor that figures in our analysis
In 1958, in sharp contrast to now, the country was in a deep recession. Though the Democrats controlled the House. vot ers blamed their pain on Republican President Dwight David Eisenhower, and it cost the GOP 48 seats. In 1974, a Watergate year, inflation and an Arab oil embargo pinched household budgets and helped fuel voter anger at Republi cans. In 1994, though the economy was improving, unemployment was above 6% and personal income began to fall in the quarter prior to the election, souring the mood of the electorate. People blamed their pain on high taxes, which they asso ciated with Democrats, and ushered in Newt Gingrich & Co.
Though the current economy is slowing, unemployment remains rel atively low, at 4.6%, and dispos able-income growth is positive. While GDP figures will be re vised downward in coming weeks and unemployment fig ures could edge up, it may not matter. Those numbers are "interesting stuff for economists, but voters will continue to focus on pocketbook issues like the price of gas and the value of their 40l(k)s," says GOP in sider Rick Hohlt. Pump prices have been falling and the Dow Jones Industrial Average has been on a tear, reaching 12,000 last week.
Hohlt and analyst John Morgan say Republicans will have unusually tough election day challenges from Demo crats in more than 50 races - a high number. They recall no more than 20 highly competi tive races in 2004. All but 10 of this year's contested seats are held by incumbents, and Hohlt and Morgan aren't predicting an outcome.
If we're even half right, and the GOP retains control of the Senate but loses the House, then there would be important ramifications for the stock mar ket. Since traders often have clis dain for Democrats, there could well be a relief rally, at least in the short tel111. "It would force investors to rethink some over zealous discounting of stocks," says Chuck Gabriel, chief politi cal analyst for Prudential Equity Group.
Fear of Democrats,he suggest, be playing a role in the weakness in energy and pharmaceutical stocks, with in ve"tOl'" bracing for a populist backh'ih against profits. "Elections may 01' may not be a driver, but it would not hurt to remove that headwind," says Gabriel.
Share of student lender Sallie Mae also may also be feeling the weight of the presumed Democrat victory. The theory is that Democrat would reduce student-loan rates if they control both ends of the Capitol, hurting' profit margins for parent SLM (ticker: SLM). It's unlikely Democrats could succeed with the Senate in GOP hands.
Gabriel adds that shares of mortgage giants Fannie Mae (FNM) and Freddie Mac (FRE), which have gained since Mark Foley resigned on Sept. 29 amid a sex sca nal, might decline with even a partial GOP victory. Republicans are considered less friendly to the quasi-governmental agencies than pro-housing Democrats.
President Bush certainly would have to rethink his approach to Congress if our scenario plays out either in full or in part. The GOP majority in Congress would be so slim that the president would have to live up fully to a promise he made during his first election campaign to be a "uniter," not a "divider." He'd have a mon strously difficult time getting Congress to make his tax cuts permanent. His desire to reform Social Security with private investment accounts likely would remain unfulfilled.
The scandals and the unpopular war are not all that are propelling Demo crats this year. The party has fielded candidates who are more attractive and better financed than in many past cam paigns.
There are nine House races where the GaP's funding advantage is mini mal, allowing for upsets. However, we don't think the Democratic pockets are deep enough to bring about a rout in these contests. There are nine other races where Democrats have very nar row funding advantages-but the Re publican Party has ready money to pour into such contests. Sara Taylor; director of the White House Office of Political Mfairs, says the Republican Party has a $56 million cash advantage over Democrats going into the final wppks of thp campaign. That's a lot of TV ads.
Many on Wall Street believe the Democrat." will triumph this yeal; too. "I'm not a big believer in generic polls, but the2:~-point lead that Democrats have over the GOP in the recent USA TO DAY/Gallup Poll is about as wide as it gets," says Grpg Valliere, chief political strategist for the Stanford Washington Research Group, a leading adviser to the Street. The poll Valliere des showed 59% of respondents favoring Democratic candi dates, 36% favoring Republicans and 5% undecided. "I threw in the towPi for the Republicans a day or two after the Foley scandal broke," he says.
Even the "investors" who buy con tract." on the Iowa Electronics Market aloe down on the Republicans for the first time in memory. Contracts that will be worth $1 if Hastert & Co. end up retain- " ing control of the House on Nov. 7 are trading for around 30 cents - hardly a vote of confidence.
You hardly can blame Democrats for feeling giddy as the mid-term contest approaches. The GOP Congress has proved more adept at producing scan dal than legislative reforms, and the un relenting bloodbath in Iraq doesn't in still strong public confidence in our com mander-in-chief. Maryland Democratic Rep. Chris Van Hollen contends the GOP's old trump card, terrorism, no longer has an effect on voters because they perceive America's pacification ef fort in Iraq "is a mess and in chaos because of gross incompetence by the Bush administration."
There's no denying that the Demo crats have fielded stronger candidates this time around. The effects of that will be on display throughout Election Day in close races around the country. Here's a rundown on some of the tight est.
In Connecticut's fourth congres sional district, Republican Rep. Chris Shays is in a bruising rematch against Diane Goss Farrell, whom he narrowly beat in 2004. He's raised $3.2 million to her $2.5 million. That put.." her within reach of an upset, but we reckon Shays' funding advantage will help him keep his seat, even though the district voted against Bush in the past two presiden tial elections.
In New Hampshire's second district, incumbent Republican Rep. Charlie Bass, who was elected in 1994, has raised a total of $918,789. The chal lenger, lawyer Paul Hodes, whom Bass beat handily in 2004, has raised about $1.1 million. Although Bass is the incum bent and within striking distance, it looks as though he's going to be knocked off, based on the money.
In Indiana's 9th district, in the south eastem part of that state, Republican in cumbent Mike Sodrel looks as if he will survive a spirited challenge by Baron Hill. Sodrel unseated Hill in 2004 after losing to him in 2002. Sodrel has raised $2 mil lion versus $1.2 million for Hill, a comfort able funding advantage.
When Ba,rron's visited the 9th dis trict in July, we wrote that Sodrel would face an uphill fight because Republicans there were angry at Bush for running up the deficit and for mismanaging the Iraq war. Not only is Bush unpopular in the district; so is GOP Gov. Mitch Daniels. The fundraising numbers tell us that the GOP base might have had second thoughts about voting for a Dem ocrat. Still, we expect Democrats to un seat Republicans in two other Indiana congressional districts.
In Pennsylvania, pundits have written off Republican Sen. Rick Santorum, who has raised $i7.3 million. His Democratic challenger, Bob Casey, who has raised $15 million, has a large lead in the polls. This is the fIrst serious challenge for Santorum since he was elected in 1994. We see him defying the pollsters on Nov. 7 and hang ing on to his seat, with voters from the Western part of the state riding to his rescue.
In Rhode Island, we predict Republi can Lincoln Chafee will lose to demo cratic challenger Sheldon Whitehouse, a former U.S. attorney. Whitehouse has raised more than $4 million versus about $3.5 million for Chafee. According to the Center for Responsive politics, nearly 80% of the challenger's money comes from individuals as opposed to political committees. Chafee has raised about 50% from individuals. Clearly Whitehouse has a better organization.
With only two weeks to go, a barrage of contradictory poll fIndings is apt to con fuse the oddsmakers, not to mention vot ers. But we're sticking with our numbers, and they say one thing: The Democrats don't have quite enough heft to push aside the elephant.
