The election season is in its last stretch, with Election Day less than four weeks away. It has definitely been an unconventional season, with the Republican Party nominating someone who has never held public office and the Democrats nominating the first female presidential candidate.
How do elections influence stock market behavior? What can we learn from prior election cycles to help us understand what to expect? Historical analysis may yield helpful clues amid the uncertainty.
The cliché, “history does not repeat itself,” applies. But the second half of the adage, “but it does rhyme,” is pertinent, as well.
The data illustrate that stocks have generally done better under Democratic presidents – which some may view as surprising given Republicans tend to be more business friendly (reducing taxes, business incentives, etc.) However, the data prove this out - the chart below shows the Dow Jones Industrial Average (DJIA) with an average annual return of 7.74% under a Democratic President (blue bars), versus 3.00% for a Republican President (pink bars).
The market also tends to prefer certainty over uncertainty. The line chart below shows the performance of the DJIA for the election year (election years from 1900 – 2012) for 4 categories: 1) All elections (black line); 2) Current Election Year (blue dotted line); 3) Incumbent party wins (green line); 4) Incumbent party loses (orange line).
You can likely draw the following conclusions from the chart above:
Stock market performance is more favorable when the incumbent party - Democrat or Republican - retains the White House, compared to the incumbent party losing.
During years when the incumbent party wins, the market bottoms earlier in the year (January through May/June), as opposed to the incumbent party losing, with the market bottoming later in the year (October).
To date, the 2016 election year (blue dotted line) has been siding closer to an incumbent party win - the DJIA sold off sharply early in the year, before peaking in mid-July. And to date, we have not had a sharp October sell-off.
The chart disparity continues to widen after the election, with a strong year-end rally when the incumbent has won, versus a sideways market when incumbent loses.
The economy has seemingly been avoiding the downside risk that has derailed incumbent parties in the past, but it also lacks the robust growth that Democrats could leverage to support their platform. Regardless of this mixed economic picture, year-to-date, the DJIA seems to be placing its vote on the incumbent party winning. We will all have the answer soon enough!
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