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The market is underestimating Trump, Wall Street strategist warns

The market is not adequately pricing in the likelihood of a Donald Trump victory, according to one strategist who expects the Republican candidate to surge in the polls over the coming weeks.

"I don't think the Street is ready for it," Larry McDonald, editor of the The Bear Traps Report, said Monday on CNBC's "Trading Nation," referring to the likelihood that Trump will win.

McDonald said the market could drop 10 percent if the chances of the Republican candidate's victory rise, simply due to Wall Street being unprepared for such an outcome.

Broadly, "expectations" are vital when considering investment decisions and how the market will perform when confronted with surprising events, he pointed out.

"This summer we argued coming market volatility would be associated with either a collapse of confidence in global central bankers or a surge in Trump election risk," McDonald wrote in a recent newsletter. "Today, we feel both are in early stages of development."

Market volatility and Trump's rising in the polls are correlated, argues McDonald, and he believes the risk here has been vastly underestimated.

On the other hand, biotech is one sector that has appeared to thrive as the chances of a Trump victory rise; Clinton's statements in support of drug pricing regulation have hurt biotech stocks.

Monday marked 50 days until Election Day, and polls point to an increasingly tight race. According to Nate Silver's FiveThirtyEight, Clinton has a 59 percent chance of winning the election, in contrast with a percentage that approached 90 percent in mid-August.

According to RealClearPolitics, an aggregate of recent polls says Clinton enjoys a 1.3 percent lead over Trump.

Meanwhile, volatility has remained low year to date, with the S&P 500 trading in historically narrow ranges in the summer months.

"A Clinton victory is going to bring calm to the markets, whereas Trump is a wild card," Jacob Weinig, founding partner and portfolio manager at Malachite Capital, told CNBC in August, adding that "Trump is not necessarily bad for markets — but you will see a pickup in uncertainty, and therefore in volatility, should a Trump victory start to look more possible."

A bevy of studies published over the course of the election season have concluded the U.S. economy would suffer should Trump win the election and enact the trade-restricting policies he has advocated.

The economy would "plunge" into a recession, according to a report published Monday by the nonpartisan D.C.-based Peterson Institute for International Economics.

Citigroup's chief economist wrote global GDP growth would fall if Trump is elected, and "deliver a shock (though perhaps short-lived) to financial markets," in a report published in late August.

And adopting Trump's proposed economic policy would result in a "significantly weaker" U.S. economy, according to a Moody's Analytics report published in June.

"It's not like people would be astonished if Trump wins, at this point; it is an unknown outcome," Zachary Karabell, head of global strategy at Envestnet, said Monday on "Trading Nation."

Trump's economic plans — "what little we do know of them" — would likely benefit the markets, as his plans tend to be more traditionally that of the Republican party, incorporating free market economics and lower taxes, Karabell said.

"I'm not going to shift in investing strategy, and I certainly wouldn't advise people to do so, based on the possibility that that might happen," Karabell said, referring to the potential of Trump rising substantially in the polls over the next several weeks.

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Trading Nation is a multimedia financial news program that shows investors and traders how to use the news of the day to their advantage. This is where experts from across the financial world – including macro strategists, technical analysts, stock-pickers, and traders who specialize in options, currencies, and fixed income – come together to find the best ways to capitalize on recent developments in the market. Trading Nation: Where headlines become opportunities.

Brian Sullivan

Brian Sullivan is co-anchor of CNBC's "Power Lunch" (M-F,1PM-3PM ET), one of the network's longest running programs, as well as the host of the daily investing program "Trading Nation." He is also a frequent guest on MSNBC's "Morning Joe" and other NBC properties.

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