posted on November 17, 2014 09:54
Every two years, shortly after election time, investors often ask if the stock market and politics are related. Having just made it through midterm elections,there will be a short break before we begin hearing about the 2016 Presidential election, and politics will again dominate the headlines. Let’s first recap what happened last week when the Republicans gained control of both houses of Congress which represents a shift in the balance of power. Now it will be easier for Republicans to pass legislation, but whether Democratic President Obama will sign the legislation remains unknown. The focus will now be on whether or not the Republican Congress can work together with a Democratic President. Over the next two years, the Republican Congress will likely focus on legislation in the areas of energy, healthcare, defense spending, and tax reform. In the meantime, we can all watch how it plays out. One question for today is whether all of this has an impact on the stock market?
Elections typically do not have a direct impact on the stock market, which is driven more by fundamentals such as economic growth, corporate earnings, valuations, and volatility levels. However, below we highlight some interesting trends in the markets surrounding elections.
- The third year of a presidential term (upcoming 2015) is typically the best of the four year cycle with an average market return of 18.7%. Going back to 1926, 91% of those years have had positive returns (see Figure 1).
- The fourth year of the presidential term (also shown in Figure 1) has been the second best year with a high number of positive years (82%) and an average return of 11.3%.
- The stock market has historically experienced an uptick following midterm elections, often an inflection point for the market regardless of the election outcome. According to Fidelity, since 1946 the S&P 500 has experienced positive returns in every 12-month period following midterm elections, with an average gain of 16.1%. Less uncertainty could be a factor in this trend.
- Lastly, according to JP Morgan, average daily volatility of the S&P 500 tends to be higher in election years versus non-election years based on data since 1990.
In summary, over the long run, whether or not new legislation is optimal, the U.S. economic recovery continues, and we will continue to adapt and progress as we have through the many political cycles throughout history.
Data source: Morningstar Direct, JP Morgan, Fidelity