It’s that time again! The midterm elections are just around the corner. Soon every news station will be reporting on the incumbent versus hopeful candidates, the latest debate, and of course the scandals. We can’t wait, but not because we enjoy watching hours of those political commercials. If history is any guide, the markets love midterm elections, and we love what the markets love.
Midterms Throughout History
It’s true that fundamentals drive markets in the long run, but there’s no doubt midterm elections have a history of influencing the markets. Regardless of the outcome, they reduce uncertainty, which markets love. There are actually two political forces at play at the moment: the midterms and the point we are at in the Presidential term. Both suggest the market should go higher. According to Bessemer Trust Co., there is an 85% chance of seeing gains this coming fourth quarter.1
You’re sure to hear commentators speculate on Republicans taking control of Congress. Political orientation aside, this may actually be the most desirable outcome for the markets. Since 1900, the best political landscape for the market has been a Democratic President and a Republican Congress.1 According to JP Morgan, this arrangement returns an average of 15.3%, the highest of all possible combinations.
What about a single party in control? Not so good with 5% for Democrats and 3.3% for Republicans, the lowest two of all actual combinations. Check out the graph in the newsletter for other returns by political party control.
Fortunately, the results don’t seem to stop the markets from generating positive returns immediately after the midterms. Here are few interesting statistics you’ll probably find surprising:
- Since 1949 the Dow Jones Industrial Average has returned an average of 7.3% in the 4th quarter of midterms, twice that of the average 4th quarter2
- Since 1929 there have been only 3 losses in the 4th quarter of midterms3
- Over the last 20 election cycles since 1929, the 3 quarter period after the midterms (October – June) has generated a cumulative average gain of 18.1%3
- This 3 quarter period has had only two instances of negative returns, both during the Great Depression3
Let’s say Republicans do take control from the incumbent Democrats. This shift of power has happened just 5 times in the last 80 years, and each time the fourth quarter returns positive. (Except in 1994 when it returned -0.7% and then rallied 18% in the first 6 months of 1995.)3
The Presidential Cycle
Presidents typically try to accomplish the most during the first half of their term. Their political power is usually at its highest, fresh off an election with the populace anxiously awaiting the first orders of business. Wider reaching legislation and more reform is pushed through to take advantage of this and address the current issues of the nation. This all leads to uncertainty because we don’t know what form it will take or what the impact will be. Markets don’t like this, which is evident when you compare the market returns of the first half to those of the second half.
Even though President Obama presided over the biggest rally since FDR in 19304, history suggests the market has a good chance of producing gains over the next two years. Presidents spend the second half of their term gearing up for reelection and their party has usually lost some control in Congress. Major legislation is typically avoided for these reasons, resulting in less uncertainty for the markets to sweat over. And it shows in the historical S&P500 returns5:
- 3rd year average return of 20.1%, with 18 positive years and 2 negative years
- 4th year average return of 13.4%, with 17 positive years and 3 negative years
- 1st year average return of 7.3%, with 10 positive years and 10 negative years
- 2nd year average return of 8.3%, with 12 positive years and 8 negative years
And one last statistic for good measure: there have been only 5 negative years in the back half of a Presidential term, all of which were during the Great Depression (1931, 1932), the onset of World War II (1939, 1940), and the tech bubble (2000).5
Final Thoughts
So when the commentators put the political coverage into high gear, fraught with polls and colorful graphs, just remember that whatever the outcome, the markets historically enjoy the midterms and the back half of a President’s term. Of course these are not the only factors weighing on market performance, so don’t base your investment decisions on the above statistics. There are strong domestic and global issues at hand that also affect the markets and economy.
Understanding your financial picture is critical. WrapManager helps our clients do this and suggests investment strategies using some of what we believe are the best money managers around. If you’re worried about rising taxes, protecting your nest egg, or simply want to get a better idea of your financial picture, give one of our wealth advocates a call at (800) 541-7774 or click here to get started!
1 ”Market Update: The Challenging Landscape.” Bessemer Trust Co. 16 August 2010.
2 Johnson, Hilary. “Midterm Elections May Boost Stocks: Report.” Investment News. 17 August 2010.
3 Stack, Jim. “Mid-term Elections and Market Cycles.” The Stock Advisors. August 2010.
4 Bit, Kelly and Lynn Thomasson. “The Midterms Could Spark a Stock Rally.” Bloomberg Businessweek. 22 July 2010.
5 Fisher, Ken. The Only Three Questions That Count. New Jersey: John Wiley & Sons, 2007.
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