The anxiety over election uncertainty has sneaked into markets, leaving enough room for a bigger market volatility for this week.
The CBOE Volatility Index (.VIX) had already soared 40% from 15.67 on October 28 to 22.15 on November 3, while S&P 500 has lost 2.2% during the same period. On Friday, the S&P 500 index remained low for the longest period since December 1980.
The pre- and post-election periods typically have opposite effects on an investor’s optimism.
Real Clear Politics data shows that even though Clinton leads in most of the polls, the race could be a tight one.
Except on 3 occasions since 1945, past stock market performance between the period July 31 and October 31 has accurately forecasted the next president. If history is a guide, then the stock market performance of the past three months may have already predicted the next president.
If the stock market performance during an election year for the given period falls, then a new party tends to win the White House in November and vice versa. In 2016 from August 1 to October 31, the S&P 500 fell 2%, indicating that Republican Nominee Donald J. Trump could be in the Oval Office as the next US President.
The chief investment strategist at CFRA, Sam Stovall told CNBC, “Going back to World War II, the S&P 500 performance between July 31 and Oct. 31 has accurately predicted a challenger victory 86 percent of the time when the stock market performance has been negative.”
Since the introduction of S&P 500 Index, there have been as many as 22 elections, 18 of which have shown positive performance.
Much of the election uncertainty for markets may not be so much around Trump’s win but more as to what happens if he wins.
According to a letter signed by 370 economists, which includes eight Nobel laureates in economics, Donald J. Trump is seen as a “dangerous, destructive choice” for the country. In such a scenario, as Trump’s odds of victory gets clearer, markets could witness a panic.
Post-election period, markets no longer face election certainty but simply react to the perception it has of the elected candidate.
According to the established presidential election cycle theory, the market tends to follow a specific pattern which is associated to the elected president’s year in office. An established theory called the “presidential election cycle theory” postulates that the financial markets exhibit weakening trends in the year following a presidential election. But the theory has failed in years like 2009, 1993 and 1989, when SPX actually rose when according to theory they should have been bad for stocks.
During the pre-election period, politicians tend to promote pro-business agendas, and once elected, their promises are put to the test. The stock performance depends a lot on whether the elected candidate’s suggested policies take a practical shape or not. This may strengthen or weaken market confidence in the newly elected president. External global uncertainties also play a big role in market movements in the post-election period.
A report by First Trust throws light on some important observations. It shows that when a new elected Democrat was preceded by a Democrat in office, the total return of S&P Index averaged 11% and when a Republican preceded a Democrat in office then the total average return for the year was 13.2%.
When different parties are in the White House and Congress, stocks usually perform better.