In just 12 days, the election will be over and we finally will know who our new president will be. Every presidential election drums up emotion, even fervor. But this year, political rancor seems to have hit new highs (lows?), and the media-fueled animus seems likely to last long after the polls close. Investors are understandably anxious, and you may be wondering how to “election-proof” your investments.
Beware: Election season is prime time for emotional investing
If we allow our emotions to influence our investment decisions, we are likely to make mistakes, says behavioral science, because humans – both individual investors and pros alike — experience a number of biologically-based biases that typically work against us. But that doesn’t mean we’re powerless against these biases; we can take steps to lessen the impact.
Focus on fundamentals
As our imagination conjures up doomsday scenarios and alternate investment strategies to employ during this election cycle, let’s pause to check our logic and remember some basic tenets of investing.
Q: What are markets made up of?
A: Stocks are certificates of ownership in capitalist companies.
Q: What drives growth of those companies?
A: Revenue, profits, and earnings drive company growth over the long term, although market volatility can drive prices up or down over the short term.
Q: Will companies stop growing after the November 8th election?
A: No, but some of the reactions we’ve seen suggest that’s what some investors might be thinking.
Q: Should Investors put a stop to seeking growth in their portfolio due to the election?
A: No. For more on this answer, please keep reading below.
History suggests that market performance is unrelated to election results
Many studies have been conducted in an effort to find a relationship between which president or which party sits in the Oval Office and market performance—but the truth is, there’s no causal connection.
YEAR OF ELECTION: RETURNS
YEAR AFTER ELECTION: RETURNS
The charts above show the performance of US stock markets over the last 85 years, first, in the year of elections and second, in the year after the election. These charts make two things clear:
1. On average, we have positive returns in the year after elections; and
2. There is no discernible trend in the returns—certainly nothing worth betting your financial future on.
Do stocks perform better under Democratic or Republican presidents?
Much to some investors’ surprise, stocks have performed better under Democratic presidents than Republican ones (see here and here and here). However, these superficial studies don’t explore (or even mention, for the most part) whether or not there’s a causal relationship between which party occupies the White House and market performance.
Correlation is not causation
So, before we jump to any conclusion or take any action, we must dig further, and look for that connection. Writing for Forbes, Peter Lazaroff explored exactly that point, stating: “There is no conclusive evidence suggesting the president’s party has any statistically significant impact on U.S. equity market returns,” citing a 2004 academic study by Campbell and Li. We endorse the author’s words of caution:
- The stock market is a complex adaptive system in which cause and effect are not easy to link.
- Market movements, particularly over short periods such as a presidential term (yes, four years is a short-term investment period), are random.
- As election season heats up, the average investor should think twice about making adjustments to his or her portfolio purely in response to election results.
- Instead, focus on the things you can control such as savings rate, investment costs and taxes.
Since studies have found no predictive connection between the outcome of elections and market performance, we think investors would be wise to focus on what has been shown to drive long-term growth. Economic growth drives company revenue, revenues lead to profits and earnings, and that is what leads to long-term market performance of companies. Simply put, well-positioned, well-managed companies will continue to create investment value regardless of who occupies the White House.
Even though the President is the most powerful person in the world, Wall Street and Main Street wield our country’s real economic power
As investors, we must keep that in mind as Election Day nears. Washington may be the seat of our nation’s political power, but it’s businesses and consumers (US consumer spending accounts for 68.4% of GDP) who hold the real economic power.
The markets don’t care whether the public likes the President or not
Markets grow based on how businesses and consumers affect company revenue and profits. Especially this year, what we watch and read about the elections very well might make us feel anxious, but the data demonstrates that the markets generally do not react to elections:
GALLUP POLL PRESIDENTIAL APPROVAL RATINGS AND DOW JONES INDUSTRIAL AVERAGE GROWTH OF $100,000
Partisan investing has not worked
Though a common misperception is that the stock markets fare better when a Republican is in the White House, the markets do not favor either party. Oppenheimer compared the returns of investors that invested in the stock market in 1897 and stayed the course to those who invested only when either Republican or Democrats were in power. Both the blue line (Democrat) and red line (Republican) investors grossly underperformed the investor who was fully invested and stayed that way.
INVESTORS WHO IGNORE THE PRESIDENT’S PARTY FARE BEST
The Human Factor
We are driven by the instinctive desire to react to the turmoil around us (stress triggers our biological fight-or-flight response). We might assume an election result and believe that to be reality. We might think of cashing out of the markets right now. We might think of moving more of our portfolio to bonds just to be safe.
Overconfidence in our thoughts and impulsive action can lead us to make costly mistakes. While we might be tempted to adjust our portfolios as Election Day nears, we will heed Sir John Templeton’s oft-quoted warning:
The four most expensive words in the investment world are, ‘This time it’s different.’
Despite the rancor we have all witnessed and endured this election, we’ve reviewed the evidence and remain confident that this time is not different, just as it wasn’t different in past elections either.
Before you embark upon a new investment strategy in advance of the coming election, consider the evidence. We believe it’s in your best interests to not let your emotional reactions manipulate you into making investment decisions. Elections will always bring out hope, fear, even despair.
However, as investors, we know what where we want to focus our attention. We want to focus on whether the economies of the world are growing or not. We want to focus on whether we are on track to meet our life goals or not.
Our advice is to behave like the markets and understand that this election, like the many before it, likely will have little impact on your investment performance. If you stick with your well-thought-out investment plan, you can celebrate on November 9. Celebrate—regardless of who wins—because you stayed on track to achieve your financial goals.