
I have written about politics and investment markets several times before – including once before the 2016 election and once about presidential elections more generally.
There has been a good deal of academic interest in the impact of political uncertainty and political results on investment returns, and we’ve learned a lot from it. Researchers have gathered and analyzed evidence from the US and around the world. If this information interests you, please check out the links above.
The influence of politics
First, there is the question of how governing political parties influence investment returns.
In the US, there’s some evidence that the stock market does better in times of Democratic presidents. As I said in my earlier article, I don’t find the evidence persuasive. The sample size is small (there were only 13 presidents between 1926, when high quality stock market return data became available, and the end of the analysis period in 1998). In addition, the conclusion depends heavily on which political party held the presidency during large stock market moves – booms and busts.
The party out of power always blames the party in power for stock market declines, and the party in power is happy to take credit for stock market booms! I don’t recall contemporaneous objective assessments ever relating stock market performance to who was president at the time.
In this century, major stock market events include the Internet Bust, the Great Recession/Financial Crisis and the Covid crisis. GW Bush was president for the first two, Trump for the last. If we were doing the analysis today, the Republicans would be “charged” with all three:
- GW Bush was president for both the Internet Bust and the Great Financial Crisis.
- I would argue that Bush had no control over the exuberant investors who drove the prices of Internet stocks into what is now (but wasn’t then) obviously bubble territory.
- Causation of the Great Recession is still in dispute, but I’ve seen no analysis suggesting that “Republican” policies were to blame.
- Trump was president during the Covid crisis stock market decline and the subsequent recovery. It’s far-fetched to attribute the pandemic and its stock market impact to “Republican” policies.
In summary, I find the evidence for presidential impact on the US stock market to be weak at best.
A much larger global study (including the US) found that election winners’ parties do not have a measurable consistent impact on stock market returns. The headline finding is that stock markets perform 1/3 of a percentage point (.33%) per year better when a left-wing government is in charge. That advantage is not statistically significant – it could easily be the result of chance.
Researchers have also studied the impact of public company relationships with governing politicians on the performance of that company’s stock. The evidence here is stronger. Company ties to politicians in power tend to pay off for company shareholders, even in the US, which we like to think of as corruption-free. It is much easier for a politician to bend legislation or regulation in favor of a particular company or industry than it is for that same politician to influence the whole stock market.
In summary, there is little evidence that politics per se (who is in charge) predictably affects stock market returns. While presidents and other political leaders have a lot of power, the economy and the stock market respond to the daily decisions of a huge number of people spending and investing in their own best interests. Politics is just one of a myriad of factors influencing the stock market.
Policy impacts
The economic and investment impacts of government policies are difficult both to discern and predict.
Political parties and experts often disagree about the likely impacts of policies both before and after they are enacted. These differences can be interested, theoretical, or both.
By “interested” I mean that one party’s supporters might perceive themselves to be advantaged by a policy, while opponents fear they will be disadvantaged.
By “theoretical” I mean that disinterested experts disagree about the impact of a policy. Economists spend enormous amounts of time and effort debating and rarely agreeing on policy impacts.
As an example, there are constant and lively discussions within the Fed and among academic and business economists about interest rates and their impact on inflation and unemployment. Is the Fed’s policy too loose or too tight? Are they moving too fast or too slowly?
Immigration, personal tax rates, and trade policy could all have significant impacts on the personal lives of many people. Their impact on the stock market is much less obvious, and much less predictable. If policies change, people and companies will react, but how?
Furthermore, today’s policy environment embodies the policies of many previous administrations. For example, Social Security started in 1935 during Franklin Roosevelt’s administration, and Medicare began in 1965 under Lyndon Johnson. Today’s policy innovations layer on top.
Predicting the impacts of new policies requires factoring in existing policies, adding complexity. Predictions about the effect on individuals are inaccurate at best. The impact on the stock market is even harder to predict.
In the context of a new administration, predicting policy impacts on the stock market requires predicting:
Which policies they will be able to implement
- How effectively they will implement those policies
- How well the policies will accomplish their intended objectives
- How those impacts will trace through to company profits
No serious researcher is attempting this sort of analysis. The Penn Wharton Budget Model initiative aims to project the potential impact of various policies on the federal budget over time. However, this group does not estimate the chance that any policy will be implemented once the leadership changes.
In short, forecasting the direct policy impact of a new president is difficult. Translating such a forecast into investment impact compounds the difficulty.
Political uncertainty and investment returns
Stock markets don’t like uncertainty of any kind, including political uncertainty.
Uncertainty and risk make it harder to predict investment results. For example, imagine a car company deciding whether to develop and sell a new model. Company managers must predict the cost to design the new model and retool the factory to build it. Then they must predict how many customers will buy it, which will depend on future competition, among other factors.
Political uncertainty may convince management to postpone production until after the inauguration to see which way the wind is blowing. That delay could cause owners and potential buyers of the car company’s stock to value it less highly.
There is evidence that political uncertainty tends to depress stock prices and contribute to stock market price volatility. Unfortunately, it is difficult to assess the impact of political uncertainty in advance. Is the S&P 500 lower than it would have been if the other candidate had won? By how much?
What to do?
If you are saying to yourself, “there is no clear call to action here,” you are reading me correctly.
Picking individual stocks frustrates even the most seasoned professionals. Buying every stock in the market, broadly speaking, makes for a better strategy. Diversification is the theme.
Timing the market is another non-starter. Selling before the market declines and buying just before it begins to rise seems like a recipe for success. Unfortunately, events that affect the stock market occur constantly, and anticipating which will drive prices up or down, by how much, and when, is notoriously difficult, again even for professionals. Patience is the theme.
You might want to avoid the extra risk associated with not knowing how the new president will affect the stock market. You could sell some or all your stocks now and buy them back when the uncertainty is resolved. Unfortunately, uncertainty about the future is never resolved — new sources constantly emerge.
People care about election outcomes for many reasons. Many of these same people are also investors who care about politics, policy, uncertainty, and results primarily as they affect investment returns.
Financial markets summarize all investors’ investment analyses and decisions. They are indifferent to personal feelings. When investors allow their emotions to influence their investment analyses, they may make poor investment decisions.
Investing in stocks is always risky. Investment returns are never a sure thing. Attempting to identify specific factors (including politics) that will influence returns in predictable ways is practically impossible. It’s wise to decide how much risk you can afford and how much risk you can stand. and chose your portfolio allocations accordingly.
Photo by Joshua Mayo on Unsplash