Things to Remember as the Election Approaches

We’re less than 70 days from election day and we’re naturally getting more calls, emails and questions about the election and how it might impact the markets. Given the country’s highly polarized political environment, many investors are wondering how the election’s outcome will affect financial markets - and whether they should alter their investment strategy. The good news is that it’s hard to find evidence that politics is a long-term determinant of market performance. Here are four things we are encouraging clients to consider and remember.

Markets don’t favor a party. Stocks have performed well under both Republican and Democratic presidents. Since 1930 there have been 23 Presidential elections, with Democratic candidates winning 13 times and Republican candidates winning 10. The average annualized price return (excluding dividends) of the S&P 500 was 9.6% when a Democrat won and 5.7% when a Republican won. When looking at longer-term horizons, such as 10 years post-election, results are almost exactly the same, with the S&P 500 returning around 7%. Interestingly, the same pattern has taken place over the last two administrations. Despite the differences between Joe Biden & Donald Trump, average annual returns of the stock market have been nearly identical.
Fundamental economic conditions drive market performance. Headlines and investor sentiment may influence short-term market movements, but economic fundamentals drive long-term performance. Factors such as corporate earnings, inflation and Federal Reserve policy have much bigger impacts on stock market performance than election outcomes. The U.S. is a $28 trillion economy primarily driven by consumer spending. It isn’t re-engineered overnight because of an election result. It is not uncommon for stocks to decline right after an election. In 6 of the last 10 elections, stocks declined the day after. However, over the past 40 years, there has been only one instance when market returns were negative 12 months after. That was during the bursting of the tech bubble in 2000.
Repositioning your portfolio or making drastic changes to your investment strategy based on potential policy changes can be a risky strategy. Picking “winners” and “losers” from an industry or sector based on election outcomes is still VERY difficult. The last two administrations are a good example of this. I think most folks would agree that President Trump favored traditional energy sources such as oil, natural gas and coal while President Biden supported a transition to renewable energy sources. The seemingly obvious choice for investors would have been to overweight the traditional energy sector during the Trump presidency and then overweight renewable energy sources during the Biden presidency. That would have been the wrong move. During the Trump administration, clean energy stocks significantly outperformed traditional energy stocks and during the Biden administration, traditional energy stocks significantly outperformed clean energy. Sometimes the “obvious” trade, is the wrong one.

4. Volatility is likely to increase but will probably be short lived. Elections can and usually do influence short-term volatility. Anxiety and uncertainty tend to rise as November approaches. In the past, market volatility (as measured by the Volatility Index or VIX) has tended to rise two months before election day. Historically this pre-election volatility has subsided 30 days after the vote and has usually returned to normal 60 days after the election. We should all expect more volatility as the election approaches.

Regardless of which candidate wins the presidency, we think there is a high chance that Congress remains divided and thus policy gridlock will likely continue. Markets may welcome this, as political gridlock means our system of checks and balances remains intact and there is less likely to be major policy upheaval for companies to worry about.

Bottom Line: The growth and resiliency of the U.S. economy and markets don’t change with each election and neither should your investment strategy. Given the polarized political climate, equity market fluctuations could increase as we approach November. In our opinion, rising corporate profits, continued economic expansion, and the potential for lower interest rates later this year and next could provide a positive backdrop for the stock market. Stay the course and do not react to political headlines.

As always, please let us know if you would like to discuss this in more detail.

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