Politics: What Is It Good For?
POLITICAL Y2K
In less than two months, the United States will head to the polls in what will be a divisive election in the middle of a pandemic and economic recession.
The barrage of political ads is underway. We are constantly bombarded on TV, social media, and directly on our phones. The political noise is deafening and, between now and November, it's likely to get worse.
It’s common for investors to be concerned about how the stock market may perform leading up to an election. In the current political environment, the intense polarization of the country has seemingly carried over to views on the stock market as well. It’s no surprise that one’s views on politics have a strong influence over their opinion of the stock market. While it’s not polite to talk about politics, a little perspective as November approaches could be helpful.
WHAT THE DATA SAYS
The bottom line: who is in the White House matters very little to the stock market. Studies of historical stock market performance suggests it doesn’t matter if a Republican or Democrat controls the Presidency.
The most often cited paper published in the Journal of Finance in 2003 is "Presidential Puzzle: Political Cycles and the Stock Market" by Pedro Santa-Clara and Rossen Valkanov. These authors attribute higher returns under Democratic regimes compared to Republicans, finding stock returns are 9% higher under Democratic administrations.
However, that paper didn’t account for stock market volatility. In 2004, two Federal Reserve economists published a paper refining this study and found a much smaller margin between Democratic and Republican administrations. So much so, they determined there is no discernible impact between the two.
POLITICS MATTERS LESS THAN YOU THINK
Over time and through Presidential regimes, stocks have managed to deal with periods of high taxes, low taxes, and changing regulatory environments. What has mattered more than the political environment is economic growth and profitability.
There have been considerable swings in stocks along the way, some perhaps even attributable to government policy, but the business cycle and the outlook for profits matter much more.
WHAT IT ALL MEANS
Elections are emotional and impassioned. That’s why they make for such good TV. But these same emotions can get in the way of managing money. In each election, the candidates and issues are different, but the political process fuels the same the anxiety, anger, frustration, and often apathy.
The U.S. and the rest of the world are going through a tough time, fighting off an active pandemic, social unrest, and economic recession. This election will be contentious, but we have had other contentious elections before. Politics often brings out our natural tribalism, but the cacophony from pundits plays into our fear and likely overstates the impact of the election on the markets.
The economy and profitability are much bigger than politics at any moment. That is still true today. It’s impossible to ignore the 2020 election, yet it may be best for your portfolio if you do.
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