How do US elections impact the stock market?
US President Donald Trump is seeking re-election to a second term in 2020. We have a look at how past elections have impacted the stock market and explain how to prepare.
US election cycles: how long do US elections last?
US elections are held every four years and always on the first Tuesday after the first Monday in November. Electoral campaigns do not follow any official time frames and can vary in length. Still, this means US elections tend to be far more prolonged than other western democracies and can last for as long as 500 or even 600 days from start to finish. Below is a template provided by the US government that outlines the typical cycle of an election:
- Spring of the year before an election – Candidates begin announcing their intention to run for president
- Summer of the year before an election to the spring of election year – Debates begin to decide which candidate should receive the presidential nomination for each party
- January to June of election year – Primaries and caucuses are held to narrow down the list of potential nominees. Leaders in the race also pick their running-mate who, if victorious, becomes vice-president.
- July to early September – Parties hold nominating conventions to choose their presidential nominee
- September and October – Presidential debates start between the nominees from each party
- Early November – Election Day is held and the public vote for their next president
- December – Electors cast their votes in the Electoral College
- Early January of the next calendar year – Congress counts the electoral votes and, twinned with the results of the popular vote, the winner is declared
- 20 January – Inauguration Day for the new president, who officially takes office
A president can only hold office for a maximum of two terms, or eight years, before they must give way. Elections tend to favour the incumbent president if they are seeking a second term, but it is also not uncommon for the opposing party to be elected once one party and its president has completed their second term in office.
It is also vitally important to remember that ‘the President is not chosen by a national popular vote’, which is that of US citizens, according to the US government. ‘The Electoral College vote totals determine the winner, not the statistical plurality or majority a candidate may have in the national popular vote totals.’ The Electoral votes are awarded on the basis of the popular vote in each state, but ‘it is quite possible that a candidate who collects the most votes on a nationwide basis will not win the electoral vote’. This was the case in the 2000 election when George W Bush won despite losing the popular vote, and in the most recent election that brought us US President Donald Trump.
How do US elections impact the stock market?
Stocks and bonds put in muted performance before elections
Based on S&P 500 data spanning back to the 1930s, patterns suggest that stocks and bonds put in a lacklustre performance in the year leading up to an election compared to other years. Average gains in the 90-year period landed at about 7.5%, but the average for the year before an election sits closer to 6%, according to the US Bank. The muted performance of stocks tends to continue in the year after an election too, but bonds tend to ‘outperform slightly’.
Stock markets do follow something of a presidential cycle
The performance of the economy and stock market does correlate somewhat with the four-year presidential cycle. Downturns, recessions, and even wars tend to occur during the first two years of a president’s term, according to the Stock Trader’s Almanac, and prosperous growth is more likely to occur in the latter half of a president’s term. Quite simply, that means the performance of the markets are not as good in the two years after an election compared to the third and fourth years.
Markets prefer re-electing a president than choosing a new one
Markets don’t tend to have a preference between Democrats and Republicans in the White House (although Republicans have generated better average returns over Democrats), but returns are generally higher when a president (or party) is re-elected compared to a new one coming into power.
This is unsurprising as an incumbent president seeking re-election provides some certainty to investors compared to when fresh contenders from both sides vie for the presidency, or there is a higher risk that the opposition could win, potentially introducing radical change. That implies the 2020 election should be more stable for financial markets than in 2016. Still, it is worth highlighting that the doom and gloom that was expected by some when Trump entered the White House never materialised.
Markets prefer a united government than a divided one
The US system means the White House, Congress and the Senate are up for grabs in elections. This implies one party can win the presidency, but the other can still control the House of Representatives or the Senate. According to research by InvesTech, average returns are the highest when one party controls them all, and slightly lower when one owns the White House but another controls both the House and the Senate.
However, when one party controls the House and the other has the Senate, returns have generally been much worse (although still positive). Presidents wield considerable power over the economy and business. For example, the president gets to pick who runs the Federal Reserve (Fed). But it is Congress that passes laws and the Senate that approves them, so having them on the same side of the president is seen as important if any real change is to happen.
How to prepare for the 2020 US election
The results of previous elections and the impact they have on the markets can help you identify patterns that could highlight opportunities if they continue going forward – but they are not a guaranteed way of predicting what will happen in 2020.
The state of the US economy has played a significant role in deciding the outcome of elections in the past, so the state of jobs, wages, inflation and the likes of productivity will all play a part in dictating the mood this year. However, it is important to remember that presidents and their policies can have significant influence over the health of the US economy. Still, unexpected events, often related to defence and foreign policy, have taken centre stage in previous elections, such as 9/11.
Below is a list of the most important issues to American voters according to the latest Gallup poll that was conducted between 2 December - 15 December, 2019. This means some major events have not been taken into account, such as events in Iran or the outbreak of the coronavirus, which may change the importance of certain issues as the year goes on. Notably, if the coronavirus outbreak is still causing chaos when the election comes around in November, then Trump could have a significantly weaker economy to boast about.
|Extremely important||Extremely important + very important|
|Terrorism and national security||34%||80%|
|Distribution of income and wealth||25%||58%|
|Federal budget deficit||23%||72%|
(Source: Gallup poll conducted between December 2-15, 2019)
How to trade the 2020 US election
For investors, the best thing to do is to stick to a long-term strategy. Typical business and economic cycles last much longer than one presidential term (or even two), so investors need to avoid the temptation of reacting to any short-term volatility or uncertainty that emerges during an election year. The single best way of protecting yourself from any potential downside that an election offers is to ensure you have a truly diversified portfolio that can weather a downturn in any specific areas.
Instead, investors should use elections as an opportunity to revaluate their portfolios to consider any new policies that could impact their investments and adjust and rebalance their holdings accordingly. Right now, you can invest in US shares commission free on our newly launched, best-ever platform by opening an IG share dealing account.
For traders looking to capitalise, any short-term volatility can present opportunities for those looking to go either long or short. One benefit of trading stocks with IG is that you can make the most out of company announcements with IG’s out-of-hours trading – available on more than 70 key US stocks for our leveraged trading and share dealing clients.
How have past US elections impacted the stock market?
We have a look at how the S&P 500 performed during the last 10 US elections. Each graph covers a period of four years – from two years before Election Day to two years after. This means each graph is continuous from the last.
Republican Ronald Reagan beat incumbent Democrat president Jimmy Carter in the 1980 election, making the latter one of the few presidents to unsuccessfully win a second term in office. Reagan won with a landslide victory as his promises to introduce supply-side economics, champion free market conservatism and raise defence spending resonated with voters.
Carter had struggled to revive a sluggish economy suffering from high inflation, unemployment and interest rates. Still, markets suffered in the first 18 months of Reagan’s presidency as the country entered a recession in 1981, partly driven by an oil crisis in the late 1970s sparked by a revolution in Iran.
The US economy started to bounce back in the middle of 1982, and had largely recovered by the following year, which put Reagan and his economic policies on a strong footing to win re-election in 1984, when he beat Democrat nominee and former vice-president Walter Mondale.
Lower taxes and deregulation helped bring inflation back under control and unemployment down. Corporate earnings soared as Reagan kicked off a decade known for the introduction of consumerism, which propelled stock markets to new highs.
President Reagan, unable to hold another term, retired and gave way for his vice president George H W Bush to take over the Republican nomination against the Democrat candidate Michael Dukakis. Bush won and it was the first time either party had managed to secure a third successive term for 40 years. Between the market bottoming out during the 1982 recession and October 1987, the S&P 500 had risen by 161%, but plunged on what is known as Black Monday.
Black Monday: what lessons have we learnt?
The crash was short and sharp and markets around the world suffered the biggest drop in a single day in history. However, the US avoided entering a bear market as markets started to quickly rebound and the bulls picked up where they left off with a run that had been going since 1982.
The S&P 500 recorded huge gains under Reagan, and fully recovered virtually all of the losses caused by the crash within a year. This meant confidence in Reagan’s economics remained high, giving Bush strong foundations to build his own policies on. However, the US entered a relatively mild recession in 1990, which dented confidence in his early years.
The US economy started to recover in 1991, which put Bush on course to win re-election in 1992. However, he became only the third president unable to secure a second term after losing to Democrat Bill Clinton. While Reagan had been remembered for delivering high growth, low unemployment and low taxes, Bush was left with the resulting debt and deficits and was punished for breaking his pledge not to raise taxes.
One of Clinton’s campaign promises included addressing the gap between the rich and the poor that had widened under Reagan and Bush. Quite simply, any economic edge with voters that Bush had inherited from Reagan had vanished and he was left with the consequences of his predecessor’s policies.
Plus, Bush’s perceived strength on foreign policy and defence following the Gulf War had waded as major threats subsided, with the Cold War having ended, the Soviet Union gone, and relative peace in the Middle East.
This meant the focus was on the economy which, although growing, looked a lot more vulnerable. Voters can look for fresh management when the economy isn’t booming. Still, the S&P 500 continued to power higher following the recession, but at a much slower and steadier rate than what was seen in the 1980s.
Clinton took office as the US came out of a recession and successfully oversaw the start of an economic boom in his first term in office. He was somewhat politically hamstrung after the Republicans won both the House and the Senate in the midterm elections in 1994, but regained ground thanks to the stable economy. The S&P 500 had rallied over 57% during Clinton’s first term.
Clinton won a second term after beating Republican nominee Bob Dole, but the Democrats still failed to win back the House and Senate. Still, growth in the economy and markets accelerated during the two years after the election, with the S&P 500 soaring 47% as the dot-com boom started to take off and investors piled in to new technology and internet stocks.
The economy’s growth started to wane in the late 1990s and culminated in the dot-com bubble bursting in March 2000, just months before the election, causing a downturn in the economy, which was on the verge of a recession.
A clean slate of candidates competed after Clinton’s second term. His vice-president, Al Gore, took over the reins but failed to stave off Republican George W Bush, the son of previous president George H W Bush. The election was considered one of the closest in history considering Bush lost the popular vote but still won the election on the back of the Electoral vote.
Bush won re-election after beating Democrat candidate John Kerry in the 2004 election. Bush’s popularity had strengthened in his first term as the economy began to recover and the country grieved after the 11 September attacks. The downturn in financial markets began to reverse in early 2003, when the S&P 500 picked up after two years of spiralling lower.
However, Bush’s ‘war on terrorism’ and the Iraq War of 2003 damaged his standing with voters, resulting in a narrow victory. While the economy featured in the campaign, this was fought more on foreign policy. The S&P 500 gained ground after Bush won his second term, but remained below its peak seen before the downturn.
The economy, in hindsight, was highly vulnerable as Bush’s second term came to an end. The country suffered a housing bubble in 2005 and 2006, which went on to trigger chaos for mortgage-backed securities held by investment banks, with many either going bust or requiring huge public bailouts, in 2007 and 2008, when the financial crash occurred. Officially, the crisis lasted around 19 months between December 2007 and June 2009.
The timing of the crash was significant considering the 2008 election, leaving Democrat Barack Obama and Republican John McCain with a fight for the economy on their hands. McCain was regarded as out-of-touch after making comments such as ‘the fundamentals of our economy are strong’ just one day after Lehman Brothers went bankrupt. Obama comfortably won the election to become the first-ever African American president.
The 2012 election was firmly centred on domestic issues and getting the economy back on track from the recession. Obama won a second term by beating Republican candidate Mitt Romney with his promises to address the likes of social insurance, budgets and his flagship Affordable Care Act.
The S&P 500 had started the long climb back from the lows of 2008, but remained volatile and well below pre-recession levels. The recovery accelerated after Obama’s re-election and hit levels in 2014 that had not been seen since before the dot-com bubble burst.
Obama completed his second term and was regarded as a success, having guided the economy to recovery. The S&P 500 had more than doubled in value during his tenure and hit new all-time highs. But the economy was still centre stage as the 2016 election came around, when Republican Donald Trump narrowly beat Democrat nominee Hillary Clinton, the wife of former president Bill Clinton.
Clinton tried to promote her political experience and promised to expand Obama’s policies on the likes of healthcare, but Trump’s controversial and abrasive approach won him a lot of media coverage. His ‘Make America Great Again’ line fed into an anti-establishment movement. The result was one of the most shocking in US history. Clinton was deemed ahead in virtually every poll conducted before the polls opened and actually won 2.7 million more popular votes than Trump, but he received the majority of the Electoral vote.
Trump put the economy at the forefront of his policies and has happily pointed toward the stock market’s performance during his tenure, even if it doesn’t directly correlate with the state of the economy. However, he has also inflicted pain on financial markets with his trade wars and confrontation with countries like Iran and North Korea. Still, US markets went on to reach new all-time highs during Trump’s first term before being significantly derailed by the coronavirus outbreak in early 2020.
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