We are exactly two weeks away from the midterm elections in this country, but I am sure you already knew that. Everywhere you go there are candidate yard signs to be seen, political smear ads to be watched, and partisan radio addresses to be heard. It is very obvious that the elections are coming and that this year the fire between candidates and parties is as high as ever. While this is the case, I am not here to talk about the politics of the upcoming election. I would like to stay very far away from such a discussion on this blog. Rather, I want to talk about what the midterm elections mean historically for the stock market and the economy at large. Will the market downturn continue, or will the exercise of the people’s voice change the direction of the markets? The future cannot be seen, but let’s look at what has already happened in the past.
It is no secret that the stock market has lost a lot of value this year. Technology stocks have been hit incredibly hard as the NASDAQ composite is down over 31% at the time of writing. The DOW Jones and the S&P 500 have lost 16% and 22% respectively so far this year. How do the midterms factor into this? Since 1946, 17 out of the last 19 midterm elections have correlated with positive upswings in the stock markets. In a study by Schwab, the stock market has performed better in the 6 months following the midterms than the 6 months prior to those 17 previous midterm elections. Obviously in the other 2 elections this was not the case. So, it appears that markets get a bit of a boost from midterm elections and the shifting of power than comes with them. Can we then expect this year’s elections to provide the same boost?
There are a couple differences this year that could factor into how the markets react following the elections on November 8th. The first difference this year is that the markets have performed much worse leading up to the elections this year than they have previously. Usually, returns in election years prior to the vote hover between 1-5%. That has been far from the case this year as we already mentioned. With the markets as far in the red as they are so far this year, it is possible we see the next six months bring something better. The second factor that makes the markets react is their perception of how newly elected officials will take on the task of fiscal spending. The midterm elections often times result in a shakeup in congress. Historically this has resulted in the party of the sitting president losing seats in the house (17 out of 19 midterms since World War II) and the senate (13 out of 19 midterms since World War II). The market often views this shakeup as a jolt of energy to the decision-making of congress. The hope is that new blood results in more deals being done and more money being injected into the economy. The question is, how likely is that to happen this year?
This year has not been like previous midterm election years. Like we mentioned, stocks have been historically bearish this year, which deviates greatly from the mean. The markets have been in such a position because of the economic problems in our country at the moment. The historic stimulus and spending in response to the pandemic as well as the continuing supply chain issues has resulted in continued high rates of inflation. Any increase in government spending could lead to increasing the problem that we currently have. It could be very possible then that the markets do not react to a congress shakeup in the same way that they have most of the time in the past. This midterm year could be the year we deviate from the mean when it comes to post election market performance. What does that mean for the long-term investor?
The call to action for the investor is to not allow your feelings about politics influence your feelings about investing. Even in cases of divided congresses where we do not have a majority in both chambers for one party, average historical returns have been 7.9% with a 2.7% growth rate in GDP. Even presidents and their politics and polemics do not have the effect on the stock markets that you would think. When looking at our two previous presidents who have radically different politics, they both have very comparable stock market returns during their presidencies. During President Obama’s 8 years in office, the stock market averaged 16.3% returns. During President Trump’s 4-year term, the stock market averaged 16.0% growth. Both of these figures are well above the average yearly returns over the last 30 years of 10.6%. The point of this is not to say that the performance of the markets under the previous two administrations indicates that markets will have the exact same returns in the future. The point is that the stock market reacts to economic policy over against political polemics. Maybe you should too.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All investing involves risk including loss of principal. No strategy assures success or protects against loss. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.