Democrats delivered a stronger-than-expected performance in the midterms. Our Head of Public Policy Research Ariana Salvatore examines what the results could mean for Washington’s policy priorities, the balance of political power and the investment landscape. Read more insights from Morgan Stanley. ----- Transcript ----- Ariana Salvatore: Welcome to Thoughts on the Market. I’m Ariana Salvatore, Head of Public Policy Research at Morgan Stanley. Today, I'll be talking about the results of the U.S. midterm elections: what the Democratic party's stronger than expected performance means for Washington, and how investors should be thinking about the implications. It's Wednesday, November 4th, at 10am in New York. Yesterday's elections delivered a much stronger result for Democrats than most had anticipated. Beyond the headline outcomes, Democrats expanded their margins in traditionally Republican areas and demonstrated a level of competitiveness in places that would've seemed unlikely just a few months ago. But for investors, the more important question is what these results actually change from a policy perspective. We see three main takeaways. First, the near-term market reaction has been somewhat complicated, particularly around the AI trade. Our U.S. equity strategists have flagged the midterms as a clearing event, although a larger Dem sweep than what was expected could introduce a little bit of volatility. Now last night, we saw a fairly clear risk-off response. Treasury yields moved lower, the dollar weakened, and equity futures declined. One of the biggest areas in focus was Texas, where the governor's flip raised questions around potential restrictions on data center development and what it could mean for the broader AI trade. That's an important issue given how central access to power, permitting, and geography have become to the AI investment thesis. But we think it's important to distinguish between political ambitions and the ability to actually implement them. In Texas, for example, the incoming Democratic governor would still face a Republican-controlled state legislature. That, in essence, limits the scope for some of the more ambitious changes that require legislation pertaining to tax policy or empowering local communities to negotiate. Of course, that doesn't eliminate the policy risk, particularly through executive and regulatory channels. But it does suggest that some of the more aggressive scenarios that investors initially contemplated may be difficult to implement. Second, we don't think the election fundamentally changes the direction of several executive-led policy areas, including deregulation. We've been expecting a pull forward in M&A activity early next year, and that remains our view. Politics are, of course, not the only factor. Economic conditions, the rates backdrop, and CEO confidence all matter. But the Trump administration continues to be perceived as favorable toward deal-making, and the agencies responsible for reviewing transactions remain central to that process. The difference is likely to be a greater degree of congressional oversight. That can create headlines and add some additional uncertainty, but it's worth distinguishing between congressional scrutiny via things like investigations and hearings and actual regulatory authority. Ultimately, the agencies still drive merger approvals and financial sector deregulation, and we don't think the election meaningfully reverses that trend. Third, the legislative implications are likely to be more limited than the political rhetoric might suggest. We've been anchoring investors to what we call our cohesive Democratic majority scenario. Under that framework, the most consequential potential legislative change is a delay in the implementation of the SNAP and Medicaid spending reductions under the One Big Beautiful Bill Act. We think that could present a modest upside risk to our growth forecast to the extent that maintaining those benefits supports household spending. Beyond that, we think the next two years will be characterized by considerably more political noise than substantive legislative change. And remember, the president is the story for markets. Executive-led authorities around tariffs, geopolitics, deregulation, and export controls have all been the key factors for markets. So, what's the bottom line for investors? We think the election delivered a more substantial political shift than anticipated, but the market and policy implications are more nuanced. For AI, the focus should remain on the distinction between state-level political constraints and the broader national imperative to support infrastructure development. For Financials and M&A, we think more oversight is to come, but relatively limited changes to the trajectory. And on fiscal policy, delaying certain spending reductions can create a modest upside risk to growth. Finally, we'd caution against extrapolating these results directly to the 2028 presidential race. There's still a significant amount of time between now and then, the political environment can change considerably, and issues don't carry over cleanly from one election to the next. For now, our view is that investors should distinguish between a meaningful change in the political landscape and much more limited change in the policies that ultimately drive market outcomes. Thanks for listening. 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