As we enter primary season already on the heels of another impeachment inquiry, there’s no shortage of conversations surrounding politics and what’s on the horizon for our nation. While there’s seemingly no facet of our lives immune to the political conversation, the impacts on the economy and the stock market, specifically, rise to the top of these discussions. Inevitably, it comes down to the same basic idea: if my candidate is in power, the economy will be great and stocks will go up — if my candidate loses, everything will fall apart and the stock market will sink.
Because the president makes very meaningful decisions that undoubtedly impact the economy, this line of thinking isn’t totally irrational. With that in mind, it can be helpful to strip away the politics and look at the data. Does the market react predictably based on the party of the candidate? Should you adjust your portfolio depending on who gets nominated or what the results may be over next year’s election?
One of the most common things one may hear as we near an election year is that the economy and stock market will be artificially manipulated by the powers that be to attempt to sway the election results. The logic is that the incumbent party would want to enter election season riding the wave of a good economy, while the party challenging would prefer to see a temporary downturn as a reason to supplant the incumbent. Therefore, it’s worth looking at whether the stock market performs markedly better or worse the year of a presidential election. Below is a chart a showing the returns of the S&P 500 from 1928 through 2020.1
This chart shows returns during and after U.S. election years from 1928 through 2020 as well as the average return year subsequent to each presidential election (10.67%) and the average return during U.S. election years (11.57%). Source: https://my.dimensional.com/asset/503/market-returns-during-election-years
The overall return of the S&P 500 during this period was 10.2%. The average return during election years was 11.6%, but with plenty of volatility. There are certainly no predictable patterns that would necessitate a change in investment philosophy.
The next question we most often get relates to market performance when a certain party is in power. I’ve included the graph below showing the breakdown of returns based on party.2
This graph shows the hypothetical growth of $1 invested in the S&P 500 from 1926 through 2022 as well as which U.S. President was in office during each year. Source: https://my.dimensional.com/one-pagers/what-history-tells-us-about-us-presidential-elections-and-the-market
Now you can slice and dice the numbers in many different ways to try to fit a narrative, but what’s very clear is two things: 1) it’s difficult to attribute predictably better returns to one party and 2) more meaningfully, it would be foolhardy to think the market can’t make money if the “other” party is in office.
However, all this data ignores one factor that actually does impact investor performance in relation to presidential elections: behavior. One research study found that “individuals become more optimistic and perceive the markets to be less risky and more undervalued when their own party is in power.” This affects investors’ portfolio decisions, and, as a result, “investors improve their raw portfolio performance when their own party is in power.”3 As we showed above, the market tends to increase regardless of what party holds the White House, so those more optimistic and willing to invest in the market have outperformed those more pessimistic and less willing to invest.
The 2016 election was a great example of this. Many financial experts and talking heads were predicting a decline in the market if Trump won. On Fortune.com, Katie Reilly reported that Citigroup predicted a Trump win would have a negative effect on the stock market, believing the S&P 500 index would fall 3% to 5% if Trump was elected. Evelyn Cheng reported on CNBC the day before the election that JP Morgan, Barclays, Citi and BMO all expected a Trump victory would have a negative impact on the stock market, with Barclays being as bold as saying the S&P 500 could potentially fall 11% to 13%.
Some went even further with their market predictions. Simon Johnson of MarketWatch wrote,
“The election of Donald Trump … would likely cause the stock market to crash and plunge the world into recession.”
In an interview with Neil Cavuto, noted billionaire Mark Cuban stated, “In the event Donald wins, I have no doubt in my mind the market tanks,” Cuban said. “If the polls look like there’s a decent chance that Donald could win, I’ll put a huge hedge on that’s over 100% of my equity positions … that protects me just in case he wins.”
To the surprise of these pundits, the opposite occurred. From November 1 through the end of the year, equity markets had a substantial growth period, with the S&P rising 5.75% while the Russell 2000 and Russell 2000 Value increased 14.27 % and 17.95%, respectively.
There are a few main takeaways from this data:
- There is no real correlation between the political party in the White House and stock market returns. No matter how much you may fear the policies of the other party, companies generally still find a way to make profits and produce positive market returns.
- The stock market was consistently and predictably positive from 1926 through 2022, with the only exceptions being a result of the Great Depression, the tech bubble burst and the Great Financial Crisis.
- Your behavior, not the result of the election, is more likely to impact the performance of your investment portfolio.