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Close election keeps stock market in limbo

As Democratic presidential nominee John Kerry embarks on a coast-to-coast tour to convince undecided voters that he is the right man to occupy the White House, uncertainty over the election's outcome is contributing to the stock market's fun.

As Democratic presidential nominee John Kerry begins a coast-to-coast tour to convince undecided voters he is the right man to occupy the White House in January, uncertainty over the election's outcome is contributing to the stock market's funk.

Despite a hoped-for bounce in support for Kerry after the Democratic National Convention, it's still anyone’s guess who will win the White House this year. For weeks, opinion polls have been showing Kerry neck-and-neck with President Bush. And because the outcome of the presidential election is so uncertain, few investors are willing to place large bets on individual stocks, says Andrew Horowitz, president of Horowitz & Co. investment advisors in Weston, Fla.

“In November 2000, when the presidential election was undecided and we had people counting hanging chads in Florida, the market was in a similar situation,” Horowitz said. “We’re in another uncertain time now, and investors are spooked.”

Other issues have heightened the nervousness of equity investors, including evidence of a cooling economy, fears of more terrorism, the fallout from high oil prices and the potential for slower earnings growth in the second half of the year.

But in the short term the stock market’s bearing is likely to depend heavily on the direction of the presidential campaign.

The equity market has been locked in a narrow trading range for more than a month. The  broad Standard & Poor’s 500 index closed Friday with a loss of 3.4 percent for July, ending at about where it started the month of March. Since March, the closely watched stock index has roughly mirrored Bush's re-election prospects, declining when his election hopes look bleak and rising when they are revived, according to Tom Gallagher, a political economist at the ISI Group.

That represents a break from past elections, when the market generally has ignored the election until after Labor Day, Gallagher said. “[The data are] tracking closely enough that I think the market is paying attention earlier,” he told CNBC. The correlation also could be due to weak economic data simultaneously driving down the stock market and Bush’s re-election hopes.

In general Wall Street tends to lean Republican, he notes. So if it looks like Kerry will win in November, or if the race looks close, the stock market is likely to react negatively.

Republican presidents are seen as more friendly to business and therefore to the stock market. And investors fear Kerry, if elected, will make good on a promise to restore dividend and capital gains taxes to their higher 2000 levels.

In his acceptance speech Thursday, Kerry repeated his pledge to roll back tax cuts for individuals who make over $200,000 a year to invest in job creation, health care and education.

Another issue for investors is the health-care sector, which has weakened amid concern about Kerry’s proposals, said David Briggs, head of global equity trading at Federated Investors.

Kerry has proposed a multibillion-dollar health care reform package, has come out in favor of  legislation to allow the purchase of foreign drugs and wants to change Medicare to allow the government to negotiate directly in drug pricing — measures the industry opposes.

Still, what’s most important for the market right now is the bounce in the polls that Kerry could receive from the Democratic convention, said Gallagher.

“[Kerry] really wants to be ahead by five or six points or so in mid-August, because that’s the average bounce an incumbent president gets from his convention. So that’s how much he’ll want to be ahead in the polls if he’s going to be ahead once the Republican convention bounce works its way through,” he said.

Gallagher also notes it’s important to remember the precedents set in 1976 and 1992 — the last two times Democratic challengers beat Republican incumbents.

“In those two years you saw a sell-off before the election and then a rally either after or just before the election, so I’m not sure this election is a long-term issue for Wall Street. But in the short-term I think it is [an issue],” he said.

Not everyone buys into the view that the election is influencing Wall Street’s direction. Salomon Smith Barney chief investment strategist Tobias Levkovich says the rising price of crude oil is the biggest problem. Oil hit a new U.S. high of nearly $44 a barrel Friday, having added some $6 for the month.

“I’m not convinced the stock market is rooting for either the Republicans or the Democrats,” Levkovich told CNBC. “Oil is the biggest issue facing the stock market right now," he noted, adding that the oil markets moved higher in May and early June, weakening consumer spending. "Investors are worried we could get more of this in August," he said.