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06 November, 2016 Education

Presidential Elections and the Stock Market


Thanks to the generosity of some good friends, my wife and I had the opportunity to attend a lecture by U.S. astronaut Scott Kelly. Mr. Kelly has spent a U.S. record 382 days in space, 340 of which were consecutive. He shared with the audience many incredible stories and life lessons that we all can likely learn from and apply.

Among the many incredible stories Mr. Kelly shared were of the launches. He described the intensity of the experience as well as the deafening loud noise that could distract an astronaut from his responsibilities that had to be attended to. At some point he said he had to tune out the noise and all of the things he could not control and focus on those things he had a responsibility to do.

The presidential election may very well be like a launch into space…a lot of noise that can cause us to lose focus on those things we can and have a responsibility to control.

Overview

The presidential election has rightfully captured a lot of attention. It’s been quite something to watch unfold. There’s a lot of concern among many investors about what could happen to the stock market should either candidate get elected (and one will get elected!). Investors with strong opinions about either candidate tend to believe a win by the opposing candidate will be a disaster for markets.

Given the strangeness of this election, nobody knows with any certainty who’s going to win. Furthermore, and more important for investors to remember, absolutely nobody knows how the market will react to either outcome. I certainly don’t know so I dug in and did some research to see if anything useful could be gleamed from past market behavior around other presidential elections.

I’ll jump to the conclusion – I think the history is interesting, and likely different than many investors think, but there is little if anything useful that comes from this research that gives us any indication how the market will react either short-term or long-term.

Stocks Reaction to Elections

We have data from 13 elections back to 1964. I calculated the market’s performance during the 30 days following the election. As the graph shows, the market was up 8 of the 13 times. The biggest move down was in 2008 when we were in the midst of one of the worst bear markets and financial crises in history. There was a meaningful drop in 2000 which also was several months into an ongoing bear market. The other noticeable move down was in 1984 with the reelection of Ronald Reagan…that’s hard to explain.

The fact is that we can come up with all kinds of seemingly more plausible explanations for all of these market reactions that have little or nothing to do with the presidential election. I think the election is just noise that distracts investors from making good investment decisions and focusing on their long-term investment strategy.

Controlling Party and Market Returns

The 30-day reaction to the election is interesting but very short-term. More interesting is the performance of the market when the white house is controlled by a given party. Depending on which way you may lean politically, you may be surprised by the results.

As the graph show, the stock market has averaged a compounded annual return of 13.3% when a Democrat is in the white house and only 6.5% when a Republican is in power. I know some investors will find this hard to believe! This is a huge difference! The question, of course, becomes whether or not there is another more meaningful explanation for these returns. The following table shows each 4-year cycle, the compounded annual returns, which party controls the white house as well as each branch of congress.

Is it likely that something other than which party controls the white house or congress had a bigger impact on the market’s performance? Consider the big returns during Obama’s tenure…is it white house and congressional action that drove these results or did the Federal Reserve flooding the economy with trillions of dollars have a bigger impact? How about Ronald Reagan…did he simply benefit from great demographic trends (baby boomers coming of age) and the start of a long-term massive decline in interest rates and falling inflation? Was George W’s luck and timing awful with his presidency starting in the midst of an existing bear market (the “tech wreck of 2000-2001) and ending near the bottom of another miserable bear market (2008’s financial crisis)?

I don’t know answers to all of these questions but I think a reasonable investor could easily argue there are often much more powerful forces driving the market’s return other than which party controls the white house or congress.

Be careful and remember that as easy as it seems to explain past market returns, as I’ve done above, it has proven impossible, based upon my research and reading of history, to forecast future returns.

Conclusion and Recommendation

This presidential election feels like a very important one. Investors are justifiably anxious about the impact it could have on the market. The above data and research I shared on this is just a small portion of the research I did…I sliced and diced it a lot of different ways. In all the work that I did on this, I did not find any compelling results that suggests this should cause investors to change their course of action.

My advice is that you have a long-term, strategically-designed investment strategy and stay the course. The election is just more noise in a noisy world for investors tempting some to make poor decisions and to ignore their responsibility to adhere to a long-term strategy. Don’t fall victim to this temptation!

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