What stock markets should expect from the US Election

Following up our recent article on common seasonal patterns, it made sense to take a look at another key seasonal event occurring this year that is about to start dominating the news cycle – the US election between Joe Biden and Donald Trump.

The performance of the U.S. stock market during an election year is often a subject of significant interest to investors, economists, and policymakers. Historically, the market’s behavior can be influenced by a variety of factors related to the electoral process, including uncertainty over policy directions, investor sentiment, and the potential for changes in economic policy.

Historically, the stock market tends to experience heightened volatility during election years. This is largely due to the uncertainty surrounding the election outcome and the potential for significant policy changes depending on which party wins. Generally, markets dislike uncertainty, and the months leading up to the election can see increased market fluctuations as investors react to polling data, campaign promises, and debates.

One common pattern observed in the stock market is sometimes referred to as the “election year cycle”. According to this pattern, the market often performs better in the latter part of the year, after the election. This phenomenon can be attributed to the resolution of uncertainty. Once the election results are known, investors can better assess the likely policy environment for the coming years. If the results favor pro-business policies, the market may react positively.

If you remember what happened during election day in 2016, markets plummeted as uncertainty abounded in the face of the realisation that Trump would win, but then quickly rebounded as investors came to grips with the situation and the uncertainty dissipated.

Image: The ASX200 Index throughout CY2016

Another noteworthy trend around this event is the “incumbent advantage.” Historically, if the incumbent party (in this years case, Biden) is perceived as likely to win, the stock market tends to perform better. This is because the incumbent represents a known quantity, and their policies are typically more predictable. Conversely, if there is a strong possibility of a change in administration, the market may react more cautiously due to the potential for significant policy shifts.

The policies of the candidates also play a crucial role in shaping market performance. For instance, candidates who advocate for lower taxes, deregulation, and other business-friendly policies are often favored by the market. In contrast, candidates who propose higher taxes, increased regulation, or other measures perceived as less favorable to business may cause market apprehension.

Post-election, the stock market’s performance is often influenced by the clarity of the president-elect’s policies and the political landscape of Congress. A clear and decisive election result typically leads to a rally in the stock market as uncertainty diminishes. Additionally, if the president-elect’s party gains control of Congress, it can further boost market confidence due to the increased likelihood of passing significant legislation.

While the U.S. stock market tends to be volatile during election years due to the inherent uncertainty of the political process, historical trends suggest that markets generally recover and can perform well once the election outcome is clear. The specific policies of the candidates, the likelihood of their implementation, and the broader economic context all play crucial roles in shaping market performance during these periods. Investors often watch election developments closely, adjusting their strategies to navigate the uncertainties and opportunities that arise during these politically charged times.