Headed for a showdown

A Democratic takeover of Congress could trigger a fourth-quarter equity setback despite strong US economic fundamentals.

• The consensus expects Democrats to regain the House while Republicans retain the Senate, producing divided government; historically, the S&P 500 gained nearly 14% annually when a Republican president faced a Congress split between the parties, versus less than 5% when Democrats controlled both chambers.
• Nominal second-quarter GDP growth was revised to 2.2% quarter-over-quarter, core private domestic final sales to 4.6%, and the Atlanta Fed’s GDPNow estimate points to 3.7% growth in the third quarter.
• Employment remains resilient: average monthly payroll growth reached 87,000 over the seven months through September, household employment rose by 406,000 in September and 569,000 in August, and four-week average initial jobless claims fell to 198,000.
• Consumer and manufacturing activity also strengthened, with back-to-school spending up 6.0% year-over-year through August and the ISM manufacturing index above 52 for nine consecutive months; core CPI inflation fell to 2.4% in August 2026 and core PCE inflation to 3.0%.
• Political and affordability risks are worsening: the University of Michigan sentiment index fell to 46.3, President Trump’s approval ratings were 27.3% on inflation and 32.5% on military action in Iran, while mortgage rates reached 7.5%.

Takeaway: Investors should not assume that divided government will automatically support stocks, because a Democratic sweep, rising energy and housing costs, and deteriorating confidence could create a sharp fourth-quarter air pocket even with solid growth and employment.