With the presidential election on the horizon, investors are closely monitoring the stock market to gauge how political changes might impact their investment portfolios. By analyzing historical trends, investors can better prepare for the unpredictability and volatility that often accompany election years.
While past performance does not guarantee future results, let’s take a closer look at how the S&P 500 index has fared during previous presidential elections.
Performance of S&P 500 During Presidential Election Years
From 1928 to 2016, the S&P 500 index saw an average return of 11.3 percent during presidential election years, according to an analysis by Morgan Stanley using data from Morningstar and Ibbotson Associates.
When a Republican candidate was elected, the average annual return for the S&P 500 that year was 15.3 percent. On the other hand, when a Democrat took office, the average yearly return for the S&P 500 was 7.6 percent. The best performing presidential election year for the stock market was 1928 with a return of 43.6 percent, while the worst year was 2008 with a -37 percent return.
A more recent analysis by T. Rowe Price covering the years 1928 to 2023 also found an average S&P 500 return of 11 percent during presidential election years.
It’s interesting to note that while presidential election years have shown positive returns for the S&P 500, non-election years actually had a slightly higher average return at 11.6 percent.
Out of the 23 election years from 1928 to 2016, 83 percent saw positive performance for the S&P 500, as per the Morgan Stanley report. The remaining four years (1932, 1940, 2000, and 2008) experienced negative returns, coinciding with significant economic events that had a more substantial impact on the market than the elections themselves.
Understanding the Presidential Election Cycle Theory
To gain a deeper insight into how elections can influence the stock market, it’s beneficial to look at trends over a full four-year presidential cycle rather than just focusing on election years.
The presidential election cycle theory, introduced by Yale Hirsch in the “Stock Trader’s Almanac,” proposes that U.S. stock markets follow a predictable pattern based on the four-year presidential election cycle.
According to this theory:
- Year 1 (post-election year): Markets often see a decline as the new president implements policies and reforms, leading to investor caution due to uncertainty about the administration’s economic agenda.
- Year 2 (midterm election year): Market volatility tends to increase during this year, historically making it the weakest in the cycle due to political uncertainty and potential legislative gridlock.
- Year 3 (pre-election year): This year typically shows the strongest market performance as presidents push for economic-stimulating policies to boost market performance and their re-election prospects.
- Year 4 (election year): Market performance can vary as investors react to election campaigns, candidate platforms, and potential changes in economic policy.
The 2024 analysis by T. Rowe Price supported elements of the presidential election cycle theory, showing lower stock market returns six and 12 months after Election Day compared to non-election years. This aligns with the theory that post-election years may experience market dips as new policies are implemented.
Additional Market Trends During Election Years
Elections not only impact stock returns but also influence investor behavior. A 2024 study by Capital Group analyzed 90 years of historical stock market returns and identified three key trends:
- Markets tend to rise irrespective of the party in power: The stock market performance has shown an upward trend through both Democrat and Republican presidencies since 1933. Maintaining a long-term investment strategy is more crucial for investors than the election outcomes.
- Stock market performance can predict election outcomes: The study revealed that the S&P 500’s performance in the three months leading up to a presidential election accurately predicted the winner in 20 out of the last 24 elections since 1936. A rising S&P 500 before Election Day typically favors the incumbent party’s victory.
- Consistent investing leads to higher returns: Investors who stayed invested or made regular contributions during election years outperformed those who remained on the sidelines. Active investment strategies, rather than reactive decisions, resulted in higher portfolio balances over extended periods.
Investment Tips for Election Years
As the presidential election draws near, it’s natural to be wary of market fluctuations and their impact on stocks. However, maintaining a disciplined approach to investing is essential for long-term wealth accumulation.
Regardless of the election outcome, here are five steps you can take to prepare and safeguard your finances:
- Diversify your portfolio: Market volatility is inevitable, but a diversified portfolio can help mitigate risks. Investing across various asset classes and industries reduces the impact of downturns in specific sectors. Consider low-cost index funds for broad diversification.
- Utilize dollar-cost averaging: Avoid timing the market around elections by consistently investing fixed amounts at regular intervals. This strategy allows you to buy more shares when prices are lower and fewer when they’re higher, potentially reducing your overall investment cost.
- Stay focused on long-term goals: Market fluctuations, especially leading up to Election Day, can be unsettling. However, maintaining a long-term perspective and avoiding impulsive decisions is crucial. Remember that short-term volatility is temporary, and your investment goals are long-lasting.
- Build an emergency fund: Prepare for unexpected expenses by setting aside cash in a high-yield savings account or cash management account. Having an emergency fund ensures that you won’t need to dip into your investments during financial crises.
- Seek professional advice when needed: If you’re uncertain about your portfolio’s diversification or asset allocation, consider consulting a financial advisor. They can evaluate your financial situation, goals, and recommend personalized strategies to optimize your investment portfolio.
Final Thoughts
While the S&P 500 has generally shown positive performance during presidential election years, these gains are not guaranteed, and attempting to predict market movements based on election outcomes is risky. External economic events and investor sentiment can significantly influence market performance. The key to navigating the uncertainties of election years and positioning yourself for success, regardless of the election results, lies in maintaining a diversified, long-term investment strategy.