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Irony: Rally Before Election Could Hurt Republicans

The stock market rally since the end of July that’s taken the Dow Jones Industrial Average to near its highest levels of the year today has been in part because of expectations of Republicans winning a majority in the House of Representatives and making significant gains in the Senate. Investors are banking on GOP wins to force comprises on tax and energy policies, as well as cause a stalemate in overall government spending.

The chatter on trading floors however is that, ironically, if the rally goes too far, it may end up hurting Republican chances this November by boosting the confidence and wealth of the populace and denting the motivation of the protest vote.

“The stock market has been a leading indicator of increasing Republican momentum heading into the mid-terms, but it could end up shooting them in the foot,” explains Steve Grasso, the director of institutional sales for Stuart Frankel on the NYSE floor. “People will be less likely to hit the polls as the stock market recovery induces complacency and makes people think that maybe things aren’t that bad.”

The Dow is on track to surpass its April closing high of 11,205 this week and is up more than six percent on the year. As the so-called barometer of the national mood, this isn’t looking too shabby for President Obama.

Mid-term elections usually come down to turnout by the most motivated. Voting during mid-terms is typically 20 percent lower than Presidential election years, according to FBR Research. This year’s tea party movement and failure of the administration’s policies to significantly dent the unemployment rate have pollsters and betting sites giving Republicans the turnout advantage.

Whether the market’s predictive mechanism will become self-defeating will remain to be seen on November 2nd. For sure, one thing the market is not pricing in, is a full switch of both houses of Congress.

“It is generally accepted that the 1994 ‘Republican Revolution’ helped push President Bill Clinton to the right, leading to centrist achievements, such as the 1996 Welfare Reform bill,” said Edward Mills FBR’s policy analyst in a note. A similar takeover would require Republican Senate candidates to “win 10 of the 12 most competitive Democratic-held seats. However, in a wave election, it is not unusual for one party to win 80 percent of the competitive seats.”

* For the best market insight, catch 'Fast Money' each night at 5pm ET, and the ‘Halftime Report’ each afternoon at 12:30 ET on CNBC.

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Trader disclosure: On Oct. 21, 2010, the following stocks and commodities mentioned or intended to be mentioned on CNBC’s Fast Money were owned by the Fast Money traders; Cortes owns (K); Cortes owns (TSN); Cortes is short crude oil; Cortes is short gold; Cortes is short (RSX); Cortes is short the U.K. Pound; Cortes owns U.S. Treasuries; Cortes owns the S&P 500; Terranova owns (APA), (AAPL), (AXP), (C), (CRM), (GOOG), (GS), (FCX), (MMM), (ORCL), (PCP), (PEP), (PFE), (TBT), (UPL), (VRTS), (XBI); Adami owns (AGU), (BTU), (NUE), (C), (GS), (INTC), (MSFT); Adami’s wife works at Merck; Weiss owns (AAPL); Weiss owns (QCOM); Weiss owns (PWER); Weiss owns (VZ); Weiss owns (CSX)

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