How midterm elections impact the stock market

Comment

Politics are personal. So is investing.

But the two shouldn’t mix if you’re investing for the long term.

Yes, the stock market doesn’t like uncertainty. The day after this week’s midterm elections, with so many races still not settled, the benchmark S&P 500 index shed 2.1 percent. The Dow Jones industrial average and tech-heavy Nasdaq also fell sharply. And control of both chambers of Congress remained in limbo as the week was ending.

But even so — don’t let post-election panic drive your investing decisions.

“Whether it’s a presidential election or midterm, politics typically encourage investors to color their views in an unhelpful way,” said Dan Egan, managing director of behavioral finance at Betterment, a digital investment advisory firm. “The more partisan someone is, the more likely they are to believe the election of the opposite party will significantly hurt the stock market.”

I asked Egan more about investing during an election year. Here’s what he had to say.

How do elections affect the stock market?

“Tight races between very different candidates represent the highest uncertainty,” Egan said.

Yet, regardless of who wins, there’s generally an upside to the stock market when things settle down.

“Elections seem to rarely have a big influence on stock markets directly,” he said. “It’s hard to distinguish between normal market ups and downs and attributing any moves directly to election results.”

Where’s the economy headed? To quote the Fed chief: ‘Hard to say.’

How do politics color investors’ actions in an unhelpful way?

Short-term decisions based on election results could create fear of a long-term market decline for some investors.

“When voters strongly favor one political party over another, it creates a bias toward whatever they do as being right,” Egan said. “If your party has a bad election night and you pull out of the markets because you think things are going to turn for the worse, you’re leaving at a time when market uncertainty is going down, which the market likes.

“Lots of factors go into how markets perform, and, in general, people overestimate the impact of politicians, especially over the long term.”

GOP to probe ‘cancer’ of climate-friendly investing after midterms

How can reacting swiftly to election results harm performance?

Panic selling because your favorite politician didn’t win or political party didn’t dominate is likely to harm your investment performance, because of the time you spend out of the market, Egan said.

“Markets tend to rise in the short term after midterms,” he said. “Missing even a few of the best market days in any given year can absolutely crush your overall returns.”

From 1993 to 2013, the S&P 500 had an annualized return of 9.2 percent, he said. “But if you had missed just the 10 best market days during that time period, your annual returns would have dropped to roughly half, or 5.4 percent.”

Don’t count on the usual post-midterm stock rally

Historically, how do the markets perform after midterms?

Temporary turbulence in the stock market, such as on Election Day, might scare some investors into selling. That would be a mistake, Egan said, pointing to reports from Vanguard and U.S. Bank.

Vanguard’s research, which goes back to 1860, found that the compounded annual return for a portfolio of 60 percent equities and 40 percent fixed income performed roughly the same whether a Republican or Democrat was elected president.

“Some may assume that one political party may have a better effect on market performance than the other, but evidence and historical data both show that this theory also falls flat,” wrote Aviva Miller, a financial adviser at Vanguard Personal Advisor Services.

“In the end, long-term investing success does not rely on short-term market developments,” Miller wrote. “Instead, it‘s more important to have a well-balanced, diversified plan that you hold for the long-term.”

The U.S. Bank report, conducted before Tuesday’s midterm elections, asked: Does history provide any guide for investors on what election outcomes might mean for the markets and economy?

Analysts studied Bloomberg stock market data from the past 60 years, which included 15 midterm elections, and found that the S&P 500 “has historically outperformed the market in the 12-month period after a midterm election, with an average return of 16.3%.”

Is there anything people should do once the dust settles?

Stocks tumbled in the immediate wake of Donald Trump’s presidential election in 2016 but then surged by the end of the next trading day.

The market factors in what impact it thinks certain political decisions could have, and that often results in positive stock performance, Egan said.

If you’re still concerned about your portfolio, talk to your financial adviser to reassess your financial goals, progress and risk tolerance.

“In times like these, it can also be a good idea to log off social media and disconnect for a few days,” Egan said. “You won’t miss the important stuff, but you’ll avoid a lot of ephemeral stress.”

Leave a Reply

Your email address will not be published. Required fields are marked *