How to Invest for the 2016 Presidential Election
With the Republican and Democratic National Political Conventions taking place, many investors are wondering how the outcome of the 2016 presidential election will affect their portfolios. Some are optimistic their candidate will win and usher in a new bull market, while others fear a loss by their favored candidate will cause the U.S. stock market to drop. This year, with both major party candidates sporting unusually high unfavorable ratings, a sizable portion of investors are scared of either candidate winning.
So how should we position our portfolios for this election cycle? Should we buy stocks because our candidate is favored to win? Should we sell stocks because the other candidate is likely to win? Or should we buy Canadian real estate because half of the U.S. intends to move north in 2017?
As with any major event, we recommend investors maintain discipline and not allow short-term noise to interfere with a focus on their long-term goals. Investors nervous about the election’s impact on the markets and wanting to adjust their portfolios should consider the following:
- Historically, presidential elections have had little impact on financial markets, so any market turbulence following this election is likely to be a small blip over the long-term.
- No matter who wins, the next President’s economic policies may not be fully enacted; and if they are, we do not know how they will influence markets.
- The efficiency of the markets means expectations are already priced into the markets.
Successfully timing the markets is difficult and trying to make investment decisions based on election results equates to market timing.
Presidential Election Impact on the Stock Market
A long view of history shows that the Oval Office occupant is not that consequential to market returns. Since the end of World War II, the U.S. stock market (as measured by the S&P 500 Index) generated positive returns during the terms of each U.S. president except Richard Nixon and George W. Bush. Including the entire eight years of Presidents Nixon and Ford, the stock market eked out a minimal gain. President Bush entered office in 2001 as the dot.com bubble was bursting and left office with the 2008 financial crisis. Investors who sold at the beginning of his term and did not reinvest, however, would have missed a spectacular rally. From October 2002 through October 2007, the stock market advanced more than 100%, or 15% annualized.
Investors may have been nervous in 2009, as the stock market dropped 17% during President Obama’s first six weeks in office. Since then the stock market rallied and more than tripled from the lows in early March 2009 through June 2016. We can analyze returns in many different ways, but the likely result is the upward trajectory of the stock market was impacted only modestly, if at all, by the President.
Taking an even longer view, the U.S. stock market returned approximately 10% annualized during the last 90 years. Yes, there have been frightening bear markets along the way, but also impressive bull markets. Most importantly, the general trend has been upward. Across any 12-month period, the U.S. stock market realized positive returns 75% of the time. When we lengthen the period to 10 or 20 years, the stock market realized positive returns 95% of the time and 100%, respectively.
Candidate Positions vs. Presidential Policies
Even if we knew with certainty who will win the election, we still don’t know which policies will be implemented and how they will affect markets. Presidential candidates often propose grandiose plans only to see them stifled when presented to Congress, especially if the other party controls one of the chambers. Although some of the new President’s agenda is expected to be enacted into law, the exact features and compromises required to pass legislation may be materially different than what was proposed on the campaign trail. Again, investors are better served by maintaining discipline and not allowing today’s campaign promises to influence their portfolio decisions.
Expectations Are Priced Into Markets
If investors are tempted to fine-tune their portfolio as the election nears, consider that market prices already reflect all information, including future expectations. As soon as new information is known, stock prices will react. Therefore, if Hillary Clinton appears headed to victory, buying health care stocks (due to increased spending on this sector) and selling coal stocks (due to increased regulations) may not be a successful strategy, as stock prices already will have moved. Likewise, if Donald Trump looks likely to win, buying coal stocks (due to less regulation) and selling multinational companies headquartered in the U.S. (because of a possible trade war) may not be a winning strategy. Again, the collective wisdom and prevailing views of who will win are priced into the market well in advance of Election Day.
Winning Elections Is Hard. Market Timing May Be Even Harder.
Some investors may think selling equities and raising cash is the safe move in times of perceived uncertainty. But, in my decades of experience conducting due diligence on hundreds of money managers, stock-only portfolio returns were always higher than the total portfolio return (which include stocks and cash) over the long term. This confirms that holding cash, even during periodic market downturns, was a drag on long-term performance.
Again, making portfolio moves based on our sense of political developments equates to market timing, which rarely leads to success. Think about the fluctuations in the immediate aftermath of the U.K.’s Brexit election; if the many investors who sold stocks after the vote were even a day or two late in buying back in, they missed gains that they can never recover. Investors who kept a long-term focus and maintained their stock exposure experienced far better results.
Why is successfully timing the markets so difficult? Because as the number of decisions increases, the probability for success decreases. For instance, investors deciding to sell stocks during a period of market turbulence have a 50% chance of being right; their portfolio values will either rise or fall. Then, investors must decide when to re-enter the market. That’s another decision with a 50% chance of being right. Across those two decisions, the odds of success drop to 25% (50% x 50%). Clearly, these are not good odds, especially when compared to the likelihood of success for investors who do not panic or make reactive decisions.
Again, history shows that the odds are on the side of patient, long-term investors; they re-coup the losses from market drops (which may take a few years in extreme cases); and they capture the gains when the market rallies (which may take only a few days, as in the case of Brexit).
Even if we are uncomfortable with the election results, we cannot determine how they will affect our investments. We also know that market timing is a losing strategy. Our advice is to let time be our friend and not worry about the short-term noise in the market, such as Federal Reserve policies, corporate earnings, or the presidential election. Rather, we would be wise to heed the advice of legendary investor Peter Lynch, who ran the Fidelity Magellan Fund for many years:
“Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.”