Is the US election year an opportunity to invest in markets?

While in the UK, the race has come to an end and we’ve decided on a new prime minister, another election race is only just getting started. In the US, we’ve just had the first presidential debate and are starting our descent into a few months of election rallies and political football between the Democrats and Republicans. A question that comes with this is, how should I invest now? Election years can be volatile for markets, and many may be apprehensive about what may happen to their investments if they choose to do so. This article will look at the effect of elections on markets, and question whether this should impact your decision to invest.

How do elections influence the stock market?

Elections can play a role in how the stock market operates. There tends to be added volatility in an election year due to the uncertainty around future fiscal policy and economic legislation. This can be for multiple reasons, as election results can mean all sorts of changes, whether it be a different tax regime, pension reform or say an increased minimum wage. Nevertheless, the main factor that influences how stock markets will run is uncertainty. The more uncertain the result of an election, or the more uncertain and ambiguous a candidate’s policies are, the more volatile the market is. This is also why, in the US, the third year of a president’s term is normally the best year for markets, as it is the year with the greatest stability from a policy perspective, and a year where no elections are taking place.

Nevertheless, volatility in markets isn’t wholly tied to elections. A world leader is a powerful figure, and a parliament is a powerful body. Both have the potential to make huge changes through legislation, setting out a country’s political and national agenda. Stuart Kirk of the Financial Times, in reference to the last two US administrations said, ‘next to recessions, pandemics, the actions of OPEC, demand rebounds or supply-side shocks following the invasion of Ukraine, the words and actions of Trump and Biden were irrelevant.’

Greater overarching political phenomena will more likely be the driver of market prices. A key example here is the effect of Donald Trump’s presidency on the oil and gas sector. His big business and anti-climate change mantras led many to believe that this sector would flourish under his leadership, yet the opposite is the case. The sector fell by two-thirds. Joe Biden, however, entered the White House on a manifesto promise of promoting green investment and reducing US dependence on fossil fuels. Conversely, the oil industry has boomed, due to record high oil prices following the Russian invasion of Ukraine. Therefore, determining your investments based on election forecasts and manifesto pledges isn’t necessarily advisable.

When considering how an election will impact the market, it is key to take both a short-term and long-term view of the market. In the short-term, elections can have a significant impact, depending on the setting and background thereof. Major policy changes and uncertainty around election results can mean different sectors are affected in different ways. In the long-term, however, it doesn’t really matter. One president’s or one prime minister’s term won’t tend to make a huge difference. As such, making significant adjustments to your investments based on elections isn’t advisable. Better to invest and stay invested. Making minor changes likely won’t do much harm, say getting out of tobacco stocks if a head of state with an anti-tobacco agenda is elected. Overhauling your whole portfolio, however, may have a different impact. It is advisable to speak to a financial adviser if you have concerns about how politics may affect your investments.

How do different voting systems affect the markets?

As I am sure you have worked out by now, the influence the elections may have on the stock market is all down to risk and uncertainty. As such, the type of voting system can also have consequences on how market forecasts will play out, with majoritarian systems having a much greater impact on forecasts than a proportional system. A proportional representation system, i.e. a system whereby the distribution of seats corresponds closely to the proportion of the total votes cast for each party, will have a less detrimental effect on market systems. In countries such as Germany or the Netherlands, predictions for not only who will win the elections, but also what the makeup of the parliament and the possible coalitions will be, can be relatively accurate. While the occasional upset may occur, the risk is starkly decreased as opposed to other voting systems.

Markets in a majoritarian system may fare differently. These systems take a winner-takes-all approach, used in countries such as the UK, the US and France. Here, in the various seats, whoever gets the most votes wins. Full stop. As such, even if a candidate for a seat in Parliament only has say 10% of the vote, if they have the most votes, they get 100% of the seat. This type of system can have a much more detrimental effect on markets as there is much more uncertainty. In the UK for instance, many seats are closely fought, and it is often difficult to determine which way the result will sway. A prime example here is the 2015 elections in the UK. Opinion polling was firmly Labour for the coalition years, and then in 2015 flipflopped constantly between the two main parties. In the end, the Conservatives got a majority. 2015 was historically a bad year for markets in the UK, with the FTSE 100 being one of the worst performing markets that year.

Hence, the form of voting system can dramatically impact the effect the election has on markets. Questions of uncertainty, predictability and stability can all change the volatility that a market will show in an election year.

How has the stock market fared historically?

Historically, the year leading up to an election has always shown lower returns. The US Bank analysed US presidential elections from 1927 onwards, finding that markets were more muted to the 12 months running up to the election, while the 12 months following the elections tended to fare better. Trends also showed that the re-election of an incumbent meant better market rates, averaging 6.5% while the election of a new president meant returns averaged 5%. AJ Bell similarly, by analysing elections from 1949 onwards, found that the Dow Jones Index returned on average just 5.4% in the election year, which increased to 7.2% in the year following, then increasing further throughout the rest of that president’s term.

This isn’t set in stone, though, with some presidencies proving the opposite, notably that of George W. Bush. However, it is also important to remember that elections don’t exist in a vacuum, and often major events can be more telling of market volatility than elections. Many of the US elections in the last 100 years were overshadowed by major world economic struggles, be it the Global Financial Crisis marring Obama’s election victory in 2008, or the COVID pandemic still raging during the 2020 election.

How has the stock market reacted to a Labour win?

On the 4th of July 2024, the UK went to the polls. Pollsters had been predicting a Labour landslide for months, with this being the final result, despite Keir Starmer’s party getting less votes than expected. As such, there was relatively low uncertainty about winners in the run up to the election, meaning markets stayed quite stable. The FTSE 100 rose slightly by 0.45% after markets opened but since went back down to where it was. The FTSE 250 on the other hand rose sharply by 1.10% on the 5th of July. Fundamentally, however, the markets were cautious, yet optimistic. The lack of uncertainty preserved their stability.

How is the stock market expected to react to the upcoming election in the US?

This election is one of the most tumultuous in recent times. There was an assassination attempt on Donald Trump; Joe Biden has just dropped out of the race and a new Democrat candidate is yet to be confirmed. Up until recently there was some level of certainty despite the polls having been especially close, both candidates had sat in the Oval Office before, meaning we had already tested the waters. However, this is no longer the case. While we may have some sense of what Donald Trump has in store, he has a new set of allies surrounding him, and Project 2025 looming in the background. His opponent most likely will be Kamala Harris, current Vice President, and former Attorney General of California. This sudden shake-up has been slightly beneficial to markets since it has removed the uncertainty that surrounded Joe Biden’s candidacy. Despite all this, JP Morgan explains that while there may be volatility in the runup to the election due to uncertainty about the result, this won’t be relevant in the long run, with markets performing better overall post-election. Nevertheless, there are still a few months to go and much could change, both in the campaigns and in global politics more generally.

How should I invest?

As mentioned, sometimes considering the result of an election can be helpful and can allow you to realign investments. This could mean not investing in sectors that may be a target of greater regulation by the new administration or those whose activities may be greater restricted. Depending on the administration, you can also consider the historical data. For instance in the US, the market tends to prefer Democrats as presidents, measured by historic S&P 500 performance.

It is important to take many of these statistics and prognoses with a pinch of salt. Usually, these studies investigating US elections go back to the 1920s, providing a hundred years or so of data. While this may sound significant, this in reality only provides us with around 25 elections to analyse, a relatively small sample size. Therefore, it may not be the most reliable information to focus on. A good way of demonstrating this is a statistic provided by Morningstar. As mentioned, Democrats tend to be better for the stock market than Republicans. As such, if you were, starting from 1953, to theoretically invest $1,000 when a Democrat took office, then take it out when a Republican enters the White House and then reinvest that money when a Democrat enters, you would make $62,000. Doing the same with Republicans would get you $27,000. The clincher here, however, is that the best investment strategy would be to ignore elections and politics altogether. If you had invested $1,000 in 1953 and remained invested until now, you could have nearly $1.7 million. With that, it would be better to simply ignore the short-term political siren’s call and focus on getting long-term growth with your investments.

In essence, the simple answer is to just invest, without giving any heed to party politics. Fundamentally, we don’t know how markets will react in the short term or how different sectors will perform under different leaderships. Do note that if you are investing, choosing investments yourself may not get you the best returns. It is a time-intensive activity, which needs some expert knowledge to get right. Speaking to a financial adviser is helpful to relieve stress and pass off the burden to someone who has knowledge in the field and can give you expert advice to maximise your investments and manage risk.

Concluding Remarks

While elections can influence markets due to questions of uncertainty, this volatility is normally temporary. Global political events are much more likely to have an impact, rather than the election of a new head of state. Research shows if you stay invested your assets are more likely to increase than if you find yourself going here and there based on the outlook of the day. Speaking to a financial adviser is useful to iron out the details, with elections likely having an impact on certain sectors. For the US election, the polls are still very close, with Trump as of the 9th of July only being up by around 2 points. To conclude, as the Morningstar data makes clear, simply staying invested will always fare better than taking out your money if your favoured candidate loses.