Presidential Elections and the Stock Market

The following is excerpted from our Q3 2016 Client Newsletter...

The presidential election is a few weeks away. We expect that most everyone, like us, is excited for it to be over.

For investors, headlines connecting the election to your portfolio are rampant. Like every one before it, this election is “the most important of our lives.” And with such high stakes, it’s natural to wonder how the result might affect the stock market.

Sure, if any election breaks the mold, then it might be this (wacky) one. Until that happens, though, history remains the best and only guide. And the data is pretty thoroughly shrug-inducing.

The histogram below shows the S&P 500 Index’s monthly returns from January 1926 to June 2016. Each horizontal dash represents one month. Novembers when a Democratic candidate won are blue and when a Republican candidate won are red.

If there is a useful pattern, we don’t see one. The election month returns are all within the typical range of returns, regardless of party.

What if we expand from election months to election years?

Still nothing unusual. What about presidential terms? The following chart shows the growth of $1 invested in the S&P 500 Index over nine decades and 15 presidencies (from Coolidge to Obama).

First, we can never pass an opportunity to highlight the power of compound interest: $1 invested in 1926 with a 10% annual return grew to $5,000 today!

More to the point, there is no blue/red pattern. The 90-year buy-and-hold investor prospered through many “most important” elections. The market provided substantial returns regardless of the party in the White House.

That’s not to say there aren’t a few interesting election year trends. The chart on the next page illustrates that average election years without an incumbent have lower second-half returns.

The theory behind the disparity is that non-incumbent elections breed more uncertainty. However, the sample size here is small. This is only the tenth election in the last 80 years without an incumbent. And 2008 weighs heavily on the data.

Historically, volatility pre-election turns to placid markets shortly after (see left). Remember, while volatility is usually considered bad, fluctuations can and do lead markets higher. Choppier pre-election markets may be real, but that does not tell us whether they will end higher or lower.

If you torture any data set, worrisome patterns will emerge. The main point here is that the history of elections doesn’t offer anything actionable for investors.

Vanguard founder John Bogle sums up our thoughts here in response to a question about Brexit, China, and the election:

Well, you can only control what you can control. I think whatever your view of the world is, you have to invest. You can’t put the money in the mattress and in this day and age of low interest rates, you can’t put it in the money market fund or a bank CD, so invest, you must…. The only way to guarantee you will have nothing at retirement is to invest nothing along the way. So, you have to take your chances.