How have past presidential elections impacted the stock market? Should you use recent history regarding presidential election cycles to try and predict or time the market? We’ll answer those questions and more in this article.
First, let’s start with a quick overview. Beginning in 1833, the Dow Jones Industrial average has seen an average gain of 10.4% the year before a presidential election, and an average gain of nearly 6% during the election year.
Certainly, those averages came with plenty of ups and downs over the last 200 years. Let’s take an extended look at the election year(s) stock market history.
Presidential Stock Market Cycles
Two theories have emerged regarding the presidential elections’ effect on the stock market. The first theory is the Presidential Election Cycle Theory.
Presidential Election Cycle Theory (2004)
The Presidential Election Cycle Theory was written in 2004 by Yale Hirsch, the creator of Stock Trader’s Almanac. In it, Mr. Hirsch suggested that the third year of a presidential “cycle” was its best performing year.
The other profitable years of a presidency on average are, in order, the fourth, second, and first.
This pattern does have variations. It is not clear if there is a full-cycle trend, or if there is a difference between Democratic and Republican administrations.
The Presidential Election Cycle Theory does show uncertainty before an election, followed by an improvement after the election. This is especially true when the economy is in a recession.
In the past, small-cap stocks have outperformed large-cap stocks on average in most election years. The normal trend is that the first year after an election, there are higher average and median returns in both large-cap and small-cap stocks.
Presidential Elections and Stock Market Cycles (2010)
The second theory was developed in 2010 by Pepperdine professor, Marshall Nickles, who wrote Presidential Elections and Stock Market Cycles. Mr. Nickles suggested a profit strategy of investing on October 1st of the 2nd year of a presidential term and then selling on December 31st of the 4th year of a presidential term.
Keep in mind that this is only a theory, and we do not recommend this particular strategy. It’s generally not a good idea to try and time markets based on presidential election cycles (or any other factor for that matter).
There are too many factors that come into play in trying to determine the ups and downs of stock and bond markets. Presidential elections are merely one factor in a much broader financial overview.
Recent Presidential Cycle Analysis
Both cycle theories are based on the newly elected president working to fulfill the campaign promises their first year in office. The theory predicts that the President will then spend his last two years campaigning and trying to improve the economy before the next election.
However, the above stock market theories did not hold up during the presidencies of Barack Obama and Donald Trump. Investors discovered that those two presidential elections did not follow historical market trends.
The theory is that the fourth year of a presidential term sees a better return than the first term. This means that the market in 2008 should have delivered better returns than it did. During the 2008 election year, however, the returns dropped by 37%.
Barack Obama served two terms as President. During each of those 4-year terms, the first two years were the most profitable. For Donald Trump, the first year of his presidency was more profitable than the second.
In 2005, President George W. Bush was sworn in again as president and the S&P 500 index gained 4.9%. If you followed Marshall Nickles’s theory and invested in the stock market from October 1, 2006 to December 31, 2008, your investments would have lost an average of 6.8%.
Key Takeaway About Election Year Stock Markets
Investing based on past historical data patterns is not a good way to make market investment decisions. A better way to invest is to understand risk and return and diversify invested assets.
The Political Party Does Not Matter
There is a myth that Republican presidents are better for the stock market than their Democratic counterparts. However, since World War II, historically, the Dow Jones Industrial has posted bigger average returns under Democratic presidents.
President and Congress Party Offsets
Contrary to the above, stocks do tend to perform better in periods when presidential power is offset by the opposing party controlling Congress. The president has a lot of impact on foreign policy and trade, but it is the Senate that affects taxes, laws affecting business, and other areas of interest to investors.
In 2008 Obama won the White House, but Democrats did not gain control of the Senate. Even after the largest ever election day rally and a 305-point surge to 9625, the Dow was down 27.4% that year.
S&P 500 Index Returns in Election Years
There have been 22 presidential elections since the S&P 500 index began. Eighteen of those 22 election years have shown positive performance during an election year. Four elections had a loss in the S&P 500 during an election year, with the most recent being a 37% loss in 2008.
In the past when a Democrat held office and a new Democrat was elected, the total return for the year averaged 11.0%. When a Democrat was in office and a Republican was elected, the total return for the year averaged 13.2%.
In 13 of the past 22 elections, the sitting president was seeking re-election. History indicates that the economy has a more significant impact on a president’s re-election chances than the stock market. There are only three times when an incumbent president lost the election, and each loss occurred just after a recession.
The S&P 500 has seen a negative return in only two re-election years. In 1932 stocks were down 8.6% and in 1940 they were down 10.7%. A review of total returns during presidential election years between 1928 and 2012 shows the following:
Republican elected as president 15.6% average return
Democrat elected as president 7.6% average return
All election years 11.25% average return
Do Markets Rise During An Election Year?
It is a normal trend for the stock market to rise during an election year. The S&P 500 has made gains in 78% of election years since World War II. President Trump is now seeking a second term and the S&P has gained an average of 6.6%. This has been the trend since 1945 whenever a Republican president has run for re-election.
2020 Election Year Market Predictions
Based on history, we should expect the stock market to keep rising during 2020 with Donald Trump seeking re-election. However, the recent volatility due to fears of the coronavirus has certainly made things much less predictable.
Since 1952, the Dow Jones Industrial has climbed an average of 10.1% during the election year when a sitting president sought re-election.
The blue-chip average has fallen 1.6% during election years when there is no incumbent running. This could be due to more uncertainty in buying and selling stocks when an incumbent is not running for re-election.
Up until a couple of weeks ago, we were currently in the longest bull market in history and if you follow history, are well overdue for a recession.
There is a possibility the stock market could correct itself in 2020 and we would go into a bear market outside a recession. This has occurred in the past and will likely happen again, we just don’t know exactly when.
Have confidence that no matter what happens during the 2020 presidential election, you need to plan an investment strategy for the future. Avoid making rash decisions based on the current coronavirus fears and ensuing market volatility.
Protecting Investments During an Election Year
Being hyper-focused on the election and who wins the White House is unnecessary from a long-term investing standpoint.
The election-year stock market history should not be a major concern in protecting or growing your current investment portfolio.
If you have concerns about how to protect your assets now and in the future, contact us to schedule a complimentary consultation. Our advisors can guide you on investing strategies to make sure you achieve your short and long-term financial goals.