How do US elections impact the stock market?

The outcome of U.S. elections can significantly sway stock markets, as investors respond to the potential shifts in economic policies, regulatory landscapes, and fiscal priorities that new administrations may bring.

From presidential races to congressional shifts, the political climate creates ripples that influence market behaviour, often leading to volatility and strategic adjustments in investment portfolios. Understanding these dynamics is crucial for market participants seeking to navigate the uncertainties and opportunities that elections present.

How have US stocks and bonds performed in the run up to an election?

The S&P 500 has averaged a 7% rise during U.S. presidential election years since 1952. While a 7% gain is far from cataclysmic, it is significantly lower than the 17% average S&P 500 gain in the year prior to an election year.

It's also below the approximate 10% average annual total return for the S&P 500 in a bog-standard year.

Source: Bloomberg

Meanwhile, when focusing on the bond market, the returns are also strong. Using a slightly smaller data sample - from 1976 the Bloomberg US aggregate bond index returned on average 7% a year in election years up to 2020. Furthermore, this bond index has not posted a negative return in election years starting from 1976.

Source: Bloomberg & Morningstar

Do US stock markets follow the presidential cycle?

The Presidential Election Cycle Theory, purported by Stock Traders Almanac, proposes that stock performance follows a predictable pattern aligned with the four-year presidential term.

The first two years tend to be the weakest for stocks, according to the theory, as the president focuses on fulfilling their manifesto, but the market improves in the latter half of a term as the president seeks to initiate economic growth to secure re-election.

However, recent history has challenged this notion. For instance, during Donald Trump's presidency, the S&P 500 surged 19% in his first year and 29% in his third – contradicting the theory's expectation of weaker initial years.

Additionally, in each of President Barack Obama’s two terms, the first year saw the best annual performance, with the S&P 500 rallying 23% in 2009 and 30% in 2013.

It’s important to note that corporate earnings, central bank policy and macroeconomic shocks tend to play a very significant role in determining equity market performance - often much more so than the impact of elections.

Do US markets prefer a Democrat or Republican president?

Analysis from Allianz shows US equities do better when Democratic presidents are in power. The US equity market delivered a return of 13.8% in nominal terms under Democrats vs 8.9% under Republican presidents.

If we bring inflation into the mix, real returns were 9.7% compared to 5.1%.

However, it’s crucial to approach this information with caution. Macroeconomic events, and factors beyond party control, can significantly impact market performance. For instance, both Trump and Biden faced the unprecedented challenge of the COVID-19 pandemic, which caused major market disruptions regardless of their policies.

This macro randomness can also be applied to more historic presidents also. Republican Calvin Coolidge’s time in office oversaw exceptional equity returns during the mid-1920s.

Yet, the Republicans also presided over the 1929 Wall Street crash under Herbert Hoover who ended up with an annual average return of -27.19%.

Whilst it’s easy to pick out the most eyewatering numbers and draw conclusions, like the COVID-19 example, each presidency has its own challenges which are often not the direct result of the President’s actions. To a very large degree, the markets react to events and what they see approaching in the distance.

Often, investing in an index S&P for a long period of time has historically been a successful strategy for generating a long-term return rather than trying to time politics and elections.

Simply missing the best ten days of the S&P 500 from 1994-2023 would have resulted in a return 54% lower than being fully invested for the entire period. If you missed the thirty best days, the figure shoots down to 83% lower than being fully invested over the period.

Source: White House Historical Association, Y Charts, Motley Fool

Does the US stock market perform better when there's a united government?

Contrary to the UK, which is a parliamentary democracy, with a fusion of legislative and executive powers, in the USA power is strictly separated.

In the US system, one party may gain control of the Presidency, while another may claim a majority in one or both houses of Congress (the Senate and House of Representatives).

Naturally a divided government can limit the president’s policy ambitions and affect market returns.

But, contrary to expectations, a divided government doesn't always hamper market performance.

Data from Allianz suggests that the S&P 500 performed best under Democrat presidents without a majority in Congress, delivering a 17.2% return in nominal terms. Returns were virtually as good for a Republican president with a Republican majority in Congress (16.8%).

Equity returns were 11.3% under Democrat presidents with a majority in Congress.

The lowest equity returns by far came under Republican presidents without a majority in Congress (7%). Results in real terms followed a similar pattern, except that the best returns came under a Republican president with a Congress majority.

These figures underscore the importance of considering the entire political landscape, not just the presidency, when evaluating potential market impacts.

How to trade or invest around the 2024 US election

1. Do your research . It’s important to understand the risk of trading and investing. Ensure that the strategy that you wish to enter suits your risk appetite and is in line with your capacity for loss.
2. Open a trading or investment account with us
3. Choose the asset you want to take a position on
4. Place your trade

It’s imperative for you to ensure that the position you wish to enter aligns with your risk appetite, time horizon and capacity for loss. Elections have a tendency to create volatile environments which could mean larger than average gains and losses.