How Presidential Elections Affect the Stock Market
Every four years, the U.S. presidential election can have a major impact on policy, laws and foreign relations. But how do presidential elections affect the market? And how does that affect you?
To better understand, U.S. Bank analysts studied market data from the past 90 years and identified patterns that repeated themselves during election cycles. While these are predictions based only on historical data, this look shows how these patterns might affect your portfolio, what you should know for the 2020 election, and how to weather election cycles as an investor.
The stock market and elections
A review of market data for the S&P 500* going back to the 1930s revealed that certain patterns emerged over those 90 years. The analysts saw that, on average, both stock (equity) and bond markets showed more muted performance in the year leading up to a presidential election than they did at other times.
“When it’s a general election, the equity market underperforms slightly,” explains Tom Hainlin, national investment strategist at U.S. Bank. “Not to the point where we have concern for client portfolios, but that’s what we’ve seen from historical evidence.”
In any given 12-month period, the analysts saw equities generally providing gains of about 8.5 percent — but in the year leading up to a presidential election, gains totaled less than 6 percent. Bond markets provided similar results, with returns of around 6.5 percent in the year leading up to a presidential election, compared with their more typical 7.5 percent in any given 12-month period.
Stock market performance after elections
There are a few different variables that can affect stock market performance. After an election, stock market returns tend to be slightly lower for the following year, while bonds tend to outperform slightly after the election. It doesn’t seem to make much difference which party takes office, but it does matter whether control of the White House changes hands.
When a new party comes into power, the analysts found that stock market gains averaged 5 percent. When the same president is re-elected or if one party retains control of the White House, returns were slightly higher, at 6.5 percent.
Who is elected president is just one factor to consider. Given that control of the Senate is key to bringing about real changes in policy regarding taxes, spending and regulation, if Democrats take the Senate in the 2020 election, it could result in short-term market impacts.
A Democratic sweep would have even more of an impact if Senate Democrats were to succeed in eliminating the filibuster rule, allowing bills to pass with a simple majority. If there is a sweep, the possibility of significant market impacts increases. Right now, a Republican sweep looks extremely unlikely, and the chances of a Democratic sweep have steadily grown.
The ongoing uncertainty of COVID-19
COVID-19 has been a major question mark hovering over the upcoming election for much of 2020. The pandemic continues to challenge many industries, and a path back to normal — or a new normal — remains unclear for many businesses.
If the number of cases goes down, consumer sentiment, economic recovery and job growth would likely follow, which could boost President Donald Trump’s reelection bid. On the flip side, if COVID-19 numbers continue to rise, or if the labor market does not see recovery, that could aid former Vice President Joe Biden’s campaign. Regardless, without a clear plan from the federal government for combating the spread of COVID-19, the market will see ongoing uncertainty.
Then there is COVID-19’s impact on the election process itself. The prevalence of the virus means that the number of mail-in or absentee ballots this year will likely far exceed historical averages. Because counting these ballots may be time-consuming, and because the system is largely untested in some states, there may be no clear winner on Nov. 3 or even for days or weeks after Election Day.
Markets do not like uncertainty. If there is no clear winner on Election Day, it’s a good bet that the stock market will experience some short-term volatility.
Specific industries and issues to watch in 2020
When it comes to this year’s election, it’s important to keep a big-picture perspective. Eric Freedman, chief investment officer at U.S. Bank, says economic volatility from public policies tends to be contained within specific industries rather than affecting the general economy. “Usually with political issues, it’s typically not a broad market set of considerations,” he says. “It tends to be more sector-focused.”
Here’s how the election — and both candidates’ policies — could affect a few key sectors and issues:
Healthcare. Hainlin singles out the healthcare sector as one that often shows increased volatility leading up to a presidential election. This year, the effects felt on healthcare companies will depend on election results. If the Democrats sweep, many anticipate a tougher stance on drug prices, a position that may put pressure on the pharmaceutical and biotechnology industries. In addition, the policy of former Vice President Joe Biden that departs most dramatically from the status quo is a public option for health insurance. A Biden win might signal future uncertainty or even weakness in the healthcare sector. With that said, weakness in healthcare may be a buying opportunity given increased government intervention for insurance policy changes in the past.
Technology. The fate of large technology stocks appears marginally tied to a Biden win. Were Trump to win, however, regulatory action could intensify in his second term. The Trump Administration Justice Department, led by Attorney General William Barr, is preparing to launch antitrust action against several large tech companies. Democrats may take similar actions, although their approach would likely be less stringent.
Trade. More than any other policy issue, Hainlin believes trade is the one worth watching. He says trade policy will not only be affected by who occupies the White House, given the wide-ranging trade powers granted to the executive branch, but also whether the Senate remains in Republican hands, because Congress has the authority to approve new trade deals. Additionally, Biden and Trump have largely divergent approaches to trade and the issue of engagement or confrontation with China. For example, Biden has struck a much less confrontational tone and would likely seek to change China’s trade practices through international diplomacy and multinational organizations like the World Trade Organization, instead of the Trump Administration’s largely unilateral approach.
Taxes. If Biden becomes president, he has promised not to raise taxes on individuals earning less than $400,000 annually. He does plan to increase taxes for individuals earning more than that figure, but some of the specifics make his tax plan less progressive than it initially appears. Higher income taxpayers will likely be regaining the full state and local tax (SALT) deduction under the Biden plan, currently capped under President Trump’s 2017 tax law. The return of the full SALT deduction could offset a substantial part of the proposed tax increase for those living in relatively high-tax states such as New York, California and Minnesota. When it comes to corporate taxes, Biden would need a Democratic Senate to enact his plan to raise the statutory corporate tax rate to 28 percent, up from the current 21 percent.
Once the election is over, Hainlin suggests that investors reevaluate how the policies that are championed by newly elected officials could affect the global economy.
How to weather 2020 — and beyond — with your investments
Keeping an eye on which sectors are most likely to be affected by the presidential election (like healthcare and technology) is smart. But there’s no need to panic about market volatility during election season. Hainlin points out that increased volatility has become more woven into the investing landscape even without the upcoming election — and that it might not necessarily spell bad news, especially when the economy is otherwise sound.
“If it’s uncertainty that causes prices to move widely, then that may also create an opportunity to buy equities,” Hainlin says. Any volatility could be used to meet your “long-term goals at a better price that can potentially give you better-than-average returns over time,” he adds.
Here are some key points to remember:
Equity markets tend to underperform in election years, regardless of who the candidates are.
The likelihood of significant market impacts increases when there is a sweep, with one party taking control of both the executive and legislative branches.
The COVID-19 pandemic increases uncertainty this election cycle. It is not yet clear what further effects the pandemic will have on the U.S. economy. Equally unclear are the effects of more absentee and mail-in ballots on when election results will be known.
Individual sectors, such as healthcare, may see some real volatility as a result of the November election. The same is true for industries affected by trade and tax policy.
While the drama of this presidential election can make your imagination run wild, what you ultimately need to watch is how policies will affect the domestic and global economies. Although a few investment opportunities may arise through an understanding of volatility and performance patterns in election years, Haworth says the best rule of thumb may simply be to stay invested and make sure your portfolio is rebalanced when necessary.
“Returns are made over a full business cycle, which is longer than even one presidential term,” he says. “With presidential elections, you need to make sure to have all the components of a diversified portfolio in place, and then stick to a longer-term strategy that’s designed for more than one election cycle.”
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