Now that both the DNC and RNC have finished their conventions, we wanted to discuss the election once again. I have written two in depth articles talking about the election and potential implications. As is human nature, the questions and concerns have kept coming anyway. One of our research inputs Andrew Adams of Saut Strategy had an interesting piece on the election and markets that we wanted to share:
“ the election topic shares a lot in common with the valuation argument. It’s not that it “doesn’t matter” but it doesn’t seem to matter nearly as much as some believe. As Jeff Saut more eloquently put it in his report Monday: “Presidents Don’t Make Markets. Markets Make Presidents.” There is a lot of truth to that even if some refuse to believe it. We’re not talking about laws of physics here so there are exceptions, but, generally, when the economy and stock market are seen to be moving in the right direction the incumbent party wins and when the opposite is true the opposing party wins. The stock market has actually been a very good predictor of the winner of the presidency over the past 200+ years according to a 2012 paper published by Robert Prechter, et al. They studied every re-election bid going back to George Washington’s run for a second term in 1792 and found the net-change of the stock market over the preceding three-year period was a “more reliable election indicator than inflation, unemployment, and economic growth combined.” They continue, “Of the 17 incumbents who have sought another term with a three-year net gain in the market of at least 14%, 14 (82%) have won another term” (this was as of 2012, remember). The Dow Jones Industrial Average was at 23,377 three years prior to the upcoming election, so as of Monday’s close it was up around 21% from that point. That is important for President Trump because “among the nine incumbents who sought another term with positive three-year net gains in the market of less than 20%, five won and four lost.” A stock market gain of at least 20% in the preceding three years before the election, however, has been a very good (though not guaranteed) predictor of the incumbent party ultimately winning the presidency.
The three months leading up to an election have also been very accurate predictors of who will win. According to Ryan Detrick at LPL, the stock market’s performance in the three months prior to election day has correctly called every election since 1984 and 20 out of the last 23 (exceptions were 1956, 1968, and 1980). Again, “presidents don’t make markets, markets make presidents.” At this point, it’s too early to tell if the stock market suggests that President Trump will retain the position, but it doesn’t seem to be too worried about Joe Biden leading in the polls and most betting markets, either.
No matter who wins, it’s important to keep in mind that the stock market and global economy are bigger than one person in office. There are obviously things a president or party can do to help or hinder expectations and growth, but the US economy is a massive machine and there have been good and bad periods for basically every combination of president and party (even though sample sizes are too small to really draw definite conclusions). I’ve had a number of people email me to ask “what do you think the market will do if Trump wins and what do you think the market will do if Biden wins?” My answer is that I have no clue and I don’t spend anytime thinking about it. I can’t predict the future and there are many, many more variables involved than just who wins the presidency (e.g. do we get a clear winner on election night?, is the election contested?, what will Congress look like?, what does the market and economy do leading up to the election?, what will happen with COVID-19 in the next two months and afterward?, what policies would each candidate prioritize in office?, what can they actually get passed?, etc.). Like with valuation, it’s unfortunately not as simple in practice as it appears in hindsight. If someone is basing investment decisions on who wins the election then I really can’t provide much help and they’re probably not going to care about my thoughts anyway. My view is that we should not let politics get in the way of our portfolios, which starts by basing decisions on the message of the market rather than what you think the market will do based on whether your “team” wins or loses.
The prevailing opinion is that Republicans are better for the economy and stock market than Democrats. I’m not going to theoretically debate that point one way or the other, but the data suggests the stock market at least has actually performed a little better under Democratic administrations historically (with some definite caveats to complicate any conclusions we can draw from it). According to Bob French, CFA of McLean Asset Management (as of July 10, 2020), from 1926-2019 the average annual total return for the S&P 500 (and the S&P Composite that preceded it) was 9.12% with a Republican president and 14.94% with a Democratic president. Again, though, there are caveats to that so I don’t think we should read too much into it. As French states:
This is obviously not deterministic though. When we break the returns down by specific Presidential tenures, Calvin Coolidge (a Republican) actually comes out with the best returns by an absolutely massive margin. Coolidge was President from August 1923 to February 1929. Though we only have stock returns starting in January 1926, we see that during that period, the annual average return of the S&P 500 Index was 30.57%. The next closest was Ford (Republican, 8/74 – 12/76) at 18.44%. And then coming in third was Clinton (Democrat, 1/93 – 12/00) at 17.20% per year. On the other hand, the Republicans also had Herbert Hoover (3/29 – 2/33) who presided over the start of the Great Depression and ended up with an annual average return of -27.19%. While it’s fun to pick out eye popping numbers, each presidency is going to have its own specific challenges and situations. And again, the President has significantly less control over the markets than most people assume. To a very large degree, the markets are going to do what they’re going to do.
French goes on to break the historical performance down further, isolating periods when Congress was unified with a president (all were same party) and when Congress was divided from a president (all were not of the same party). Expressed this way, 13 years were “Unified Republican” for an average annual S&P 500 return of 14.52%, 34 years were “Unified Democrat” for an average return of 14.52%, 33 years were “divided with a Republican president” for an average return of 6.99%, and 14 years were “divided with a Democratic president” for an average return of 15.94%. Does this mean that we should expect the future to look the same? No, but the data doesn’t seem to support that there is one particular make up in Washington that necessitates fearing a market crash, as many seem to do each election cycle.
If you need more evidence that the market is probably going to do whatever it’s going to do, just look at the past eleven years or so. The S&P 500’s annualized price return while Barack Obama was in office was 13.02%. From the time Donald Trump took office to just before the Coronavirus collapse the annualized price return was 13.83%. Bespoke Investment Group recently did a deeper dive into sector performance under the two presidents and there, too, the results were similar:
During Obama’s tenure as President, the two best performing sectors in the S&P 500 were Consumer Discretionary (+338%) and Technology (+286%). The two best performing sectors under President Trump? Consumer Discretionary and Technology. Under Obama, the worst-performing sector in the S&P 500 was Energy (+53%). Under Trump? Energy as well (-47%). These aren’t the only similarities either. Of the six sectors that underperformed the S&P 500 during Obama’s eight years in office, five of them are also underperforming during Trump’s tenure as well. Conversely, of the three sectors that have outperformed the S&P 500 during Trump’s tenure, two also outperformed during Obama’s eight years.
This secular bull market really hasn’t cared who is in the White House (just like the 1982-2000 bull market didn’t care) and neither president probably deserves as much credit as they’d like for the bull run given the very accommodative Fed policy, broader economic trends coming off the worst period since the Great Depression, and ultra-low interest rates during their respective times in office. And no matter who wins in November, it’s likely that the independent Fed is going to remain accommodative for the foreseeable future.
Ultimately, the election result is secondary in my opinion with respect to the stock market. No matter who wins, if the market rallies, it will show up in the charts. If the market tanks, it will also show up in the charts. It’s not a horse race so I don’t recommend placing bets based on potential outcomes given how many unknowable variables are involved.”
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