For the conclusion of our three-part series on the upcoming Presidential Election, we will examine average stock market performance in each year of a President's term. This is commonly referred to as the Presidential Election Cycle Theory.
Part 1: Election 2024: How Stocks Perform in Election Years
Part 2: Which Political Party is Better for the Financial Markets?
The Presidential Election Cycle Theory is based on the observation, first documented by Yale Hirsch in the first edition of the "Stock Trader's Almanac" in 1967, that stock market returns appear to follow a pattern each time a new U.S. President is elected.(1)
The theory is based on the observation that stock market performance during the first (7.9%), second (4.6%) and fourth (7.3%) year of a President's term, regardless of party affiliation, are less than the 50-year average return of 10.0%, while the third year (17.2%) is notably the best.
According to the theory, in the first two years after entering the Oval Office, the President tends to focus on accomplishing their top priority campaign promises, which often involves indulging the special interests of those who got them elected. In the third year, the S&P 500 crescendos in performance as the President tends to turn their focus to stimulating the economy, which has historically been an important factor in winning re-election or positioning the next candidate for their party for election. Finally, election uncertainty in the fourth year causes less than average returns, after which point the cycle begins again with the next presidential election.
(2)
Keep in mind, a vast number of factors can impact the performance of the stock market in a given year, some of which have nothing to do with the President or politics. We saw that in 2020 with the global pandemic. However, as shown in Figure 1, there may in fact be a pattern, on average.
However, averages alone don't tell us whether a theory has merit. There is also the question of how frequently this third-year bump occurs. Between 1933 and 2023, the stock market experienced gains in 70% of the calendar years; however, during the third year of the President's term, the S&P 500 had an annual increase 90% of the time, demonstrating a notable outlier. By comparison, the market gained 61% and 53% of the time during years one and two of the presidency, respectively.
(3)
Whether investors can feel confident timing the market based on Hirsch's research is questionable and the experts at WT Wealth Management certainly wouldn't recommend making investment decisions based on the theory alone.
As Presidential elections only occur once every four years in the United States, the sample size is small to draw definitive conclusions. A fun and maybe surprising fact is there have only been 23 elections since 1933.
If you are still eager for more after the 2024 Election Season and are already thinking about 2028 – research related to the Presidential Election Cycle Theory (Figure 2) has also shown that the stock market underperforms in the fourth year of "Lame Duck" Presidents.
(4) We always joke that one thing the stock market hates is uncertainty, and you are guaranteed that in 2028 if former President Trump wins the 2024 Election.
Over the past two decades, we've witnessed many investors allow their political views to get in the way of their investment results. Some people didn't like President Obama, but if they let that dictate how they invested they missed big gains (16.3% average annualized return). Likewise, some people didn't like President Trump, but if they got out of the market because of his Presidency they also missed big gains (16.4% average annualized return).
(5) Currently, President Biden's approval rating is quite low, but stocks have soared and are at all-time highs.
The bottom line is that a strong economy and corporate earnings are what will drive stock market performance, not who is or isn't in the White House. The experts at WT Wealth Management feel strongly that the key to successful investing is sticking to the plan you developed with your financial advisor tailored to your individual financial goals, time-horizon and risk tolerance, and not basing financial decisions on who is sitting in the White House.
Sources
- Stock market researcher Yale Hirsch published the first edition of the "Stock Trader's Almanac" in 1967. The almanac introduced many influential theories, including the "Santa Claus Rally" in December and the "Best Six Months" hypothesis, referring to the tendency of stock prices to dip during the summer and fall.(2)
- Presidential Election Cycle Theory: Meaning, Overview, and Examples
Investopedia.com
- Investing In An Election Year
Medium.com
- "Lame Duck" is a term used to describe an official (usually the president) in the final period of office, after the election of a successor (Oxford Dictionary).
- Here's How Much Money You Would Have if You Had Invested $10,000 in the S&P 500 on Day 1 of the Last 4 Administrations
Fool.com
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