These ETFs can help round out your midterm election investing playbook

Published Tue, Nov 8 202212:53 AM EST

Jesse Pound @/in/jesse-pound @jesserpound

Wall Street appears to be cautiously optimistic about this week's midterm elections, with the possibility for sustained gridlock in D.C. coinciding with a seasonal period of strength for stocks. Divided power in Congress and the White House is often seen as a positive for equities, as it limits the chances for major regulatory or tax changes. One way for investors to benefit from a broad rise in stocks is through exchange traded funds, which can simplify the process of buying large swathes of the market while cutting down on trading costs. While many individual races on Tuesday are up in the air, Wall Street traders are confident that the Republicans will at least gain ground in the House of Representatives, limiting the ability of Democratic Party to push through tax hikes or regulatory changes. "There's a little less uncertainty around the outcomes, either looking at the polls or just looking at the historical track record of having the incumbent party lose seats," said Angelo Kourkafas, investment strategist at Edward Jones. Even if the election results match expectations, stocks may still rally as some unknowns are removed. "Simply getting a big 'something' out of the way frequently provides short-term relief. And with tomorrow's mid-term elections in the US finally upon us, bullish traders are hoping for such a scenario," Frank Cappelleri of CappThesis said in a note to clients on Monday. Sector funds If Republicans are able to take both chambers of Congress, as some polls project, that would allow them to block Democratic Party legislation and appointees. That could help a few sectors that are often in the focus of left-leaning politicians. "Communications Services, Energy, and Industrials were the sectors that were seen as benefiting the most, largely due to views on what this outcome would mean for the regulatory backdrop," RBC Capital Markets' head of U.S. equity strategy Lori Calvasina said in a note to clients. Broad sector ETFs from firms like iShares, State Street and Vanguard are one way to play these sectors, offering cheap broad exposure. For example, the Industrial Select Sector SPDR ETF (XLI) and Vanguard Communications Services ETF (VOX) both have an expense ratio of 0.10%. Energy stocks have been runaway winners for investors this year, but one group that has lagged the sector is pipeline funds. A big night for Republicans could improve the regulatory outlook for that category. The Tortoise North American Pipeline fund (TPYP) is one such fund with a five-star rating from Morningstar, while the Global X MPL & Energy Infrastructure ETF (MLPX) has a four-star rating. A biotech rebound? Health care is another area that could benefit from curtailed Democratic control. Cowen analyst Eric Assaraf said in a note to clients on Monday that "healthcare legislation over the next two years will likely be limited to modest, bipartisan items and/or expiring provisions." KKM Financial CEO Jeff Kilburg said that biotech is a favorite area for him at the moment, namely the iShares Biotechnology ETF (IBB) . The fund is down about 15% year to date, but some of its biggest holdings like Moderna have performed significantly worse. "IBB gives us an opportunity to get exposed to some of the names that have underperformed in this administration," Kilburg said. Under-the-radar elections Federal elections are not the only contests on Tuesday that could move stocks. According to BTIG, there are several states with marijuana-related ballot measures this cycle, and Californians are voting on sports gambling. Those results could cause big moves in small corners of the market that have proven to be volatile. The Roundhill Sports Betting and iGaming ETF (BETZ) is down more than 40% this year. The biggest marijuana ETFs — AdvisorShares Pure US Cannabis ETF (MSOS) and ETFMG Alternative Harvest ETF (MJ) — are each down more than 50% for the year. — CNBC's Michael Bloom and Fred Imbert contributed to this report.