By Peter Mastrantuono
The coronavirus pandemic has upended how we think about historical stock market behavior, but with an important presidential election coming up in November it may still serve a useful purpose to examine how the stock market has responded to the presidential election cycle.
The Historical Record
While the key long-term drivers of stock valuation are economic growth and company earnings, markets may often react to a number of other factors, such as government policies, taxation and investor emotions.
The influence of the presidential election cycle is not only about who is elected president, but also whether the majority party elected to the House and Senate is the President-elect’s party or the opposition party. These different scenarios have the potential for meaningful differences in subsequent government policies that can affect economic growth and company earnings.
One analysis of the presidential election cycle by Fidelity, a global financial services company, found that:
- U.S. stock market performance is correlated with the presidential election cycle.
- The first two years of a presidential term generally have below-average returns, while the last two years have above-average returns.
- Stock market performance has, on average, been better when a Republican president (+49%) is elected or there is a Republican sweep of the White House and Congress (+48%). Comparatively, a Democratic president (+46%) and Democratic sweep (+41%) is less rewarding.
- Divided government produces below-average returns relative to the average market return of 47%, with a Republican president and one or both legislative branches controlled by Democrats performing the worst with an average gain of just 38%.
Fidelity’s research also points to some sharp short-term differences between the political parties, though over the longer term these return differences narrow considerably. For instance:
- Over a two-year period following the election of a Republican president, the stock market does much better (+8.3% average annual return) than when a Democrat wins (+5.8%). However, over the next two years the full-term four-year average annual return converges (8.6% return for Republican presidents versus 8.8% for all presidents).
While Fidelity’s analysis examined the markets and elections dating back to 1789 (yes, there was a stock market back then), Glenmede Investment Management, an independent asset manager, studied this relationship over the period 1928-2016.
Glenmede looked at the performance of a hypothetical $1,000 investment from the start of the election year through three years of a presidential term, comparing it to non-election year cycles of similar duration. It concluded that the presidential election cycle had no impact on returns.
Their analysis also indicated a slight advantage of a Democratic president to equity returns, though based on the overall standard deviation of returns, the level of variability outweighed this small difference, suggesting that the election of a particular party had no discernible impact on stock market performance.
There is an ebb and flow to stock prices that may be correlated to elections, but it may have limited application to portfolio decision-making. For determining when asset class holdings can be added to or trimmed, investors may be better off seeking the insight of an experienced financial advisor rather than relying on a historical correlation that may be irrelevant within the context of prevailing market conditions.
Peter Mastrantuono is a contributing writer to MyPerfectFinancialAdvisor, the premier matchmaker between investors and advisors. Peter worked for over 30 years in the wealth management industry, focusing on retirement planning, investing, asset allocation and financial planning.