It has been a topic of conversation and study for decades. How does the presidential election affect the Stock Market? Well, you are about to find out and you might be a little surprised by the result. However, before we begin, let me clarify that I do not endorse or follow any particular political party or any specific candidate. This article is for informational purposes only and any appearance of political bias is purely coincidental.
There are two basic categories of factors that affect market performance…fundamental factors and sentimental factors. Fundamental factors are those that have a direct impact on the market. These would include profit and loss statements, lack of consumer spending, legislative action, product creation and improvements, and the like. Sentimental factors are factors that affect investors’ emotions and decision-making. Although there are current problems with the US economy, market swings are mostly due to sentimental and less fundamental factors. Presidential elections do not have a fundamental impact on the stock market. Any market swing due to the presidential election is truly due to investor sentiment, that is, their perception of how things are or will be.
Do the presidential elections cause a negative annual drop in the market? You may be inclined to say yes, but since 1928, only 3 of the 20 election years saw a decline in the S&P 500. While the third-year presidential terms have statistically the best stock market performance with a return average of 19.3%, presidential periods of the fourth year have averaged 13.3% return. Historically, the stock market has performed better when the Republican candidate has won. However, for the inaugural years, the opposite is true. Only 3 of the last 10 inaugural years for Republicans have turned out positive…Reagan’s second term, George HW Bush’s only term, and George W. Bush’s second term. The average market return during the Republican inaugural years averaged -0.4%.
What happens when the Office changes parties? When the presidency changes from Republican to Democrat, there has never been a negative fourth year since 1932. The average return is 5.8%. The reverse of that, Democrat to Republican is 13.2%, but the inaugural year is much worse at an average of -6.6% compared to 20.7% in the previous scenario. The reason for this flip-flop, in my opinion, is the perception of the parties. Republicans tend to be seen as pro-business and pro-rich and Democrats tend to be seen the other way around. Thus, investors expect business-friendly regulation with Republicans but rarely get it, and investors anticipate deregulation but rarely see it with Democrats. So, sentimentally, when there’s a possible party change, it does matter who wins.
What is more interesting is not so much who wins but by what margin they win. Historically, the larger the margin of victory, the better the outcome of the election year. When the race is close and not well defined, election year returns are much lower. So which party usually wins elections? To answer that fairly, we have to start counting the year the Republican party got its start with its first candidate in 1856. Since that year, Democrats have won quite often, but only twice has a Democrat won the majority vote ( not counting Franklin Roosevelt)… Lyndon Johnson-1964 and Jimmy Carter-1976. Contrary to popular belief, neither John F. Kennedy nor Bill Clinton ever won a popular majority. However, when a Republican wins an election, most of the time (but not always, GW Bush, ie) he wins the popular majority.
Don’t let sentimental investors scare you away from investing. In the end the fundamental factors always outweigh.