The incredibly close special election in Pennsylvania could wind up making markets more volatile

  • "It's hard to overstate the magnitude of the victory last night in the Special U.S. House race in Pennsylvania," wrote Fundstrat policy strategist L. Thomas Block.
  • Equities markets, sensitive to changes in political agenda, could be in for more volatility if power dynamics in Washington change come November.
  • "The canary went into the coal mine and died – Republicans have a problem," Block prophesized.
Donald Trump
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Donald Trump

Strong performance from Democrat Conor Lamb in Pennsylvania's special U.S. House race marks a "serious" problem for President Donald Trump and Republican allies, according to a report from a leading Wall Street firm.

"It's hard to overstate the magnitude of the victory last night in the Special U.S. House race in Pennsylvania," wrote Fundstrat policy strategist L. Thomas Block in a note on Wednesday. "Trump won this seat by 20 points, Romney won by 17 points. In 2016 and 2014 the Republican House candidate ran unopposed."

Block added, "This is steel country a week after the President announced a tariff on steel imports. This is coal country where the President is advertising his efforts to revive coal."

"The canary went into the coal mine and died – Republicans have a problem."

The widely-followed contest between 33-year-old Lamb and Republican rival Rick Saccone concluded in a dead heat, with the Democratic candidate clinging to a lead of just a few hundred votes. Though Saccone had not conceded as of Wednesday afternoon, Democrats have heralded the election as a major victory, hoping the win foretells similar success in November's midterm elections.

For Republicans — as well as markets — that could prove to be a big headache.

Source: Dan Clifton, Strategas

"Control of the House or Senate allows for total control of the agenda by the majority party," he explained. "The impeachment process begins in the House, and if Democrats would capture the House, suddenly Trump could face the same process Bill Clinton saw with Monica Lewinsky."

To be sure, Democrats have a long way to go if they want to control either chamber of Congress. Of the 35 Senate races, only nine are in states where the current Senator is Republican; to control the House, the Dems need to capture just 24 more seats.

For Daniel Clifton, head of policy research at Strategas, midterm elections are less about "red" and "blue" districts and more about enthusiasm.

"You've now had five special elections where you see a significant movement toward the Democrats," Clifton told CNBC. "When you look at these districts, they're telling you a larger story that Democratic voters really want to come out and vote. … From a policy perspective, if you had Trump and a Democratic Congress, it's likely you get an infrastructure bill."

Equities markets, sensitive to changes in the political agenda, could be in for more volatility if power dynamics in Washington change come November.

And Clifton noted that while President Trump and Democratic leadership disagree on a slew of issues, both are keen on improving the nation's roads and airports, suggesting there could be sector plays for investors to keep in mind.

"We continue to believe that infrastructure funding will be more significant than the market is anticipating," Clifton wrote in a note. "Infrastructure stocks could be further boosted by a Democratic Congress as this is one area where Trump and the Democrats could cut an even larger deal in 2019."

Health care could also be an industry to monitor, Clifton added, as Democrats and Trump appear united in their disdain for steep pharmaceutical pricing.

WATCH: Dem wins House election in PA's Trump country