Coming into 2020, the presidential election was poised to dominate the headlines and drive market volatility. That quickly changed once COVID-19 started to unfold, but with election day approaching, the attention has shifted back to this very polarizing election. Certainly, differences exist between this election and others in the past, but a look at election-year stock market history can still help shed light on expectations for the market and economy.

In the run-up to November, the headlines and general opinions regarding which candidate could sink the economy and equity markets will only intensify. The “experts” will come out of the woodwork with investment advice on the bold portfolio changes to make to prepare yourself. A common misconception is that markets experience a sharp uptick in volatility before and after elections. The numbers don’t support this and, in fact, show how volatility is surprisingly lower!

Most recently, many predicted the market’s immediate demise if then-2016 nominee Donald Trump were to win. Further back, some predicted the markets would be “killed” when President Obama took office. These predictions didn’t play out and are why we emphasize not making an investment decision based on who may win the White House.

A few data points regarding presidential elections and markets:

In the year of a presidential election, the S&P 500 ended on a positive note in 17 of the past 23 elections (~74%), with an annual average return of 7.1%
Dating back to 1964, volatility in the S&P 500 has been lower in the 100 days before and after an election.
Since the 1800s, a portfolio of 60% equity/40% bonds has delivered nearly identical annualized returns in election years (8.9%) vs. non-election years (8.1%).

While analyzing trends can lead to interesting insights, even a seasoned stock trader can tell you that loss of principal is still common when trend following. Long-term market performance is influenced by many factors, such as corporate earnings, interest rates, and foreign policy. The President of the United States has influence, but markets tend to react to politics on a short-term basis. Other factors play a larger role.

Cycles

It is important to remember that our economy is cyclical, and often the situation that the new administration is inheriting will shape matters, for better or worse. For example, as President George W. Bush took office, the dot-com bubble was already bursting. President Obama took office in the midst of The Great Financial Crisis. Sometimes, the situation for the new administration comes down to fortuitous luck.

The bigger picture shows that over the long run, it tends to even out as the nominal performance of the Dow Jones Industrial Average during the first three years in office for the last 10 Presidents is nearly split between Democrats and Republicans.

Which Party Is Better for Markets?

Quite often, characterizations are made about how markets perform better under one party versus another, but the numbers show that the party doesn’t make a big difference. Since 1900, the Dow Jones has earned ~9% annually under Democrats and 6% under Republicans.

From this, you may conclude that markets prefer a Democrat, but much comes down to timing. Election years such as 1932 (midst of the Great Depression), 1940 (World War II), 2000 (dot-com crash), and 2008 (financial crisis) were met with sharp market declines and had little to do with the election and the candidates. We could see something similar in the coming year from the fallout of COVID-19.

Cherry-picking start and end dates can make returns look better or worse to fit a specific narrative. For example, since 1945, markets have outperformed under Democratic administrations as the highest returns came under Presidents Clinton and Obama. Choosing that period excludes the ~200% market returns under Republican President Roosevelt and skews the numbers.

Congress

If any market trend related to political elections is worthy of attention, it would be with Congress. Market data show that performance tends to be better in a split Congress as the thought is neither party has too much power and, with the proper checks and balances in place, economic policy will not experience major disruptions. This is worth a closer look:

Stock market returns were over 30% in 1985, 2013, and 2019, all years in which congressional power was split.
Since 1976, stocks have delivered annual average returns of 17.2% under a split Congress, surpassing the 14.3% and 10.8% experienced under a Congress controlled by Republicans and Democrats, respectively.

It’s worth noting that markets tend to underperform in the first two years and outperform the last two of a presidential term. The rationale is a president’s policy agenda can take time to work its way into the economy. Also, the focus of the last two years for the incumbent party is on re-election, which is often through fiscal and monetary policy. In fact, since 1928, the third year following an election year has yielded a positive return for U.S. stocks 82% of the time!

These are impressive numbers, but it should be noted that a split Congress alone does not lead to a thriving market.

Federal Reserve

Not to beat a dead horse, but in my opinion, the Fed has a bigger influence on markets. This influence has been on display for the last 10-plus years in which both equity and bond markets have flourished despite muted economic growth. The Fed’s balance sheet has increased from ~$2.2 trillion to ~$7 trillion over the last decade. In addition, they have pledged 0% short-term rates until at least 2023, which generally bodes well for markets as they become an even more attractive option.

While stimulus does not necessarily equate to economic expansion, it typically leads to asset price inflation. The Federal Reserve is an independent body that does not favor one party as witnessed by nearly identical policy under both Presidents Obama and Trump. For now, the Fed seems content to continue its current path for the coming years.

As citizens and taxpayers, we all know that elections are critical regardless of which side of the political aisle we fall on. Your vote should go to the candidate that most aligns with your ideals and values. Voting based on markets shouldn’t factor as history has proven that it doesn’t matter much.

It can be hard to tune out the noise, especially as we are approaching the eighth month of the pandemic, But my advice and that of most wealth managers is to focus on your financial goals and personal risk tolerance. The rest will take care of itself.

Our Bethesda, MD financial planning firm understands that everyone’s situation is unique in its own right. That’s why we suggest you work with a financial advisor who can help you create a financial plan that will assist you in making the best and most comfortable decision based on your financial goals and desires.

Discuss your situation with a fee-only financial advisor.

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