Until last Friday, markets appeared to expect “no big changes” in Washington DC after next Tuesday’s presidential election, says Randall Forsyth in Barron’s. They were reckoning with a Clinton presidency, a Democratic Senate win, but a House of Representatives still under Republican control. Following last Friday’s email bombshell, however, it seems “anything can happen”, so it’s no wonder stocks and the dollar slipped late last week. Yet despite the narrowing of the polls, a close look at the mathematics of the electoral college – the body that votes for the president – still suggests Clinton should prevail.
Judging by past form, that would be good for stocks. Since 1945 the average yearly gain for the S&P 500 under a Democratic president has been 9.7%. For Republicans, the figure is only 6.7%. The best performance occurred during the tenure of Gerald Ford, who racked up an annual average return of 18.6%. Bill Clinton comes second with 14.9%. However, as we’ve pointed out before, investors should treat stockmarket patterns of this kind with extreme caution: correlation is not causation. The economy and stock prices are subject to a broad array of influences that are beyond a single president’s ability to control. For instance, Ford managed to arrive at the trough of a downturn and left before the stagflation of the late 1970s kicked in. Bill Clinton had little to do with the dotcom boom.
Bearing in mind that presidential initiatives are often watered down or thwarted in Congress, areas where the two candidates broadly agree and may not face much opposition in the legislature can give some pointers to the implications for particular sectors. The key themes are that both are keen to increase infrastructure and defence spending, and both will take a more protectionist stance than the current administration, which could hamper stocks of firms with a large proportion of foreign sales. Throw in Clinton’s proposal for a higher top rate of income tax and tougher treatment of capital-gains taxes, and her agenda “resembles that of a traditional Democrat”, says The Economist’s Buttonwood columnist. That makes it all the more telling that the financial markets have so little enthusiasm for Trump. This is a choice investors would rather not have to make.
Trump’s illiberal and inconsistent platform means he could give markets a nasty fright if he wins. No doubt the central bank would inject yet more liquidity if there is a sharp slide in stocks – but there could be quite a bounce in gold before that happens. It might be worth topping up your holdings of our favourite form of insurance.
Fed ends the “presidential cycle”
One of the best-known stockmarket patterns detected on Wall Street, the presidential cycle, has disappeared. Jeremy Grantham, investment guru and founder of the GMO fund management group, who brought it to investors’ attention, now says that the Federal Reserve’s constant bubble blowing since the 1990s has watered the pattern down beyond recognition.
His research shows that between 1932 and 2009, the 36 months of the first, second and fourth years of a presidential term saw stocks gain an average of 0.2% a month. But during the third year, monthly returns spanned 0.75%-2.5%. Governments liked to stimulate the economy in the third year in order to ensure unemployment was decreasing by the time people got round to voting in November of the fourth year. The Fed would help things along: it “always decided to come to the aid of the party in power”, Grantham tells the FT.
But the more aggressive monetary stimulus started by Alan Greenspan in the 1990s and continued by his successors has muddied the water. The Fed began to juice the economy all the time, not just in year three. This frenzy of activity has drowned out any momentum provided by politicians.
As a result, the tendency of the third year of a presidential cycle to outperform the others has dwindled, to the point that Obama’s third years were the only two of his tenure in which the S&P 500 did not rise, says John Authers in the FT. The disappearance of the third-year pattern is an intriguing side-effect of the Fed’s endless money printing and bubble blowing.