Q4 2024 Conversations on Markets

Stock Market Performance and Political Parties in Power

FOURTH QUARTER, 2024

CONVERSATIONS ON MARKETS

Conversations on Markets is an extension of Bel Air’s Conversations Series, featuring insights on the economy and shifts across sectors, policies, and geopolitics.

The upcoming presidential election is expected to cause volatility in the coming months. As November approaches, the political rhetoric will likely intensify in what is anticipated to be one of the closest presidential races of the past century. Elections are inherently uncertain – a sentiment often resulting in short-term moves in financial markets. We note, however, that election outcomes do not tend to drive long-term market returns regardless of which party is in power. We advise resisting the urge to express political opinions or concerns through investment portfolios. Instead, we encourage clients to remain patient and focus on long-term investment goals.

Below are some common portfolio tactics surrounding an election that can result in longer-term portfolio impairment.

1. GOING TO CASH

Two frequent questions arise during election years:

• Should I sell stocks to avoid potential election-related volatility?
• Should I adjust my portfolio based on the election outcome?

To assess the potential impact of moving to cash during election periods, we conducted a historical analysis of the S&P 500’s price return from its 1957 inception¹ through the most recent 2020 election, focusing on the five months spanning September through January –the two months before, the month of, and the two months after the election.

The data reveals that the months leading up to November are typically volatile while uncertainty prevails. However, equities historically recover in November and the months following the election. Overall, stocks generally rose over these five months, with better average returns during election years compared to non-election years, excluding the extreme outlier of 2008.

Source: Bloomberg. Data as of September 30, 2024.

Given this historical context, we caution against making substantial changes to asset allocation based on short-term dislocations during the pre-election months.

[1] Standard and Poor’s introduced S&P Index in 1923 covering 233 companies. The S&P 500 index as it is known today was introduced in 1957, when it was expanded to include 500 companies. 

2. Investing in Line with Political Ideologies: White House Control

For those contemplating longer-term strategies based on election outcomes, an analysis of three investors starting with $10,000 at the end of 1976 illustrates important insights. We begin the analysis in 1976 to align with a period in which both political parties have evenly divided time in the Oval Office.

First, the Democratic investor remains invested in stocks (using the S&P 500 Index as a proxy) only when a Democrat is in the White House, shifting to cash during Republican administrations. The Republican investor adopts the opposite strategy. Lastly, the Independent investor chooses to invest in the S&P 500 Index consistently, regardless of political affiliation.

As illustrated in the chart below, the Democratic investor’s portfolio grew to over $142,000 by the end of May 2024, outperforming the Republican investor’s $60,000 portfolio. Most importantly, the Independent investor’s portfolio outgrew the other investors’ portfolios rising from $10,000 to over $854,000 over the last 12 presidential terms.

Source: Bloomberg. Data as of September 30, 2024. Does not include 2008 in the time series. Based on respective president’s first month in office.

Investors on both sides of the political spectrum who have repeatedly erred by opting out of market participation based on the occupant of the White House lose out on significant upside performance. Wealth accumulation requires time and patience, often yielding substantial rewards. The example above illustrates the danger of investing based on political leadership.

3. Investing Under Various Configurations of Government

Examining the stock market returns under unified versus divided government provides another perspective.² From 1926 to 2023, there were equal periods of unified and divided government, each lasting 49 years. During divided governments, the S&P 500 averaged a 10.2% return, while under unified governments, the average was 14.1%, a 3.9% annual premium disproving the common notion that stock markets like a divided government.

Source: Retirement Researcher, “Are Republicans or Democrats Better for the Stock Market?”, Bob French, CFA.

More interesting data appears when a Republican president works with a Democratic majority in Congress, and vice versa. Here, the findings indicate that a Democratic presidency and a Republican legislature performed much better, with a 16.6% annualized return. The opposite scenario generated only 7.3%. 

[2] A unified government occurs when the presidency, the House of Representatives, and the Senate are all controlled by the same party, whereas a divided government exists when at least one house of Congress or the presidency is controlled by the opposing party.

Stay Invested Regardless of Election Outcomes

With all of this data, it is tempting to try and conclude whether a divided presidency and Congress would result in better stock market performance for the next four years. If the past is prologue, presidential election outcomes have an insignificant effect on the stock market. The difference in the market returns from the scenarios above can be better explained by global macro events like World War II, the Oil Crisis, and the dot-com bubble, along with their impacts on company earnings. Furthermore, fiscal policies and executive actions take many years to have an economic impact, which may only be quantified after the administration has changed.

Elections are emotional times. Compounding wealth takes time and patience. We encourage investors to stay informed without becoming overwhelmed by headlines that could trigger consequential asset allocation changes. A well-diversified and balanced portfolio should withstand periods of volatility and simultaneously achieve the goal of long-term growth.  

The Bel Air View

The Federal Reserve and other central banks have begun to ease monetary policy, citing moderating inflation and some signs of slowing economic activity.

Central banks have shifted from tightening to loosening monetary policy as inflation data has moderated. Additionally, the Federal Reserve believes the labor market has shown enough signs of weakness to justify a 50-basis point cut, meaning the focus has changed from controlling inflation to supporting job growth.

The overall economy remains strong, but recent downward revisions to employment data have shifted the market’s attention to growth concerns.

Large immigration has made it difficult to accurately track employment, which could explain why the Bureau of Labor and Statistics revised employment data lower. For now, unemployment claims have remained low, and job openings have returned to pre-pandemic levels, suggesting that the labor market is relatively balanced. Still, any sign of further weakening could be viewed unfavorably by investors.

Polls are anticipating a close U.S. presidential election as candidates have proposed significant changes in tax and trade policies.

Both candidates have announced major plans for both tax and trade policies, but the likelihood of these proposals passing will depend on key congressional elections. Without support from both the House and Senate, it is unlikely that these major changes will be enacted.

Second quarter company earnings came in strong, showing that companies and the economy have been able to navigate around a higher interest rate environment.

Many economic forecasters predicted a recession as interest rates increased, but the economy has remained resilient largely due to fiscal stimulus, a strong consumer, and a healthy job market. Recent employment reports, however, and actions from the Federal Reserve, suggest that economic growth and earnings could be lower going forward.

Higher interest rates have lowered private market transactions, decreasing distributions to private investors.

Higher interest rates have lowered the number of exits for private funds over the last several years. As monetary policy eases, the real estate, mergers & acquisitions, and IPO markets could open up, allowing private investors to see more distributions.

Risks to our view:

• Re-acceleration in inflation
• Fed behind on cutting rates
• Extended real estate downturn
• Escalation in geopolitical tensions
• Election uncertainty
• Dollar strength