Americans will head to the polls in just a few weeks to elect the next President of the United States. The outcome is unknown, but one thing is certain: When news breaks and markets move, content-starved media is flush with talking heads musing on repercussions. A steady stream of opinions will flow from pundits and prognosticators about the election’s impact on the stock market. Discerning speculative opinion from actual fact can help investors stay disciplined during purported “crises.”
Think back to June of this year. UK citizens voted in a referendum for the nation to withdraw from the European Union. The result, which defied the expectations of many, led to market volatility as investors considered the potential consequences.
Journalists responded by using the results to craft dramatic headlines and stories. The Washington Post said the vote had “escalated the risk of global recession, plunged financial markets into free fall, and tested the strength of safeguards since the last downturn seven years ago.”1
The Financial Times said “Brexit” had the makings of a global crisis. “[This] represents a wider threat to the global economy and the broader international political system,” the paper said. “The consequences will be felt across the world.”2
But within a few weeks of the UK vote, Britain’s top share index, the FTSE 100, hit 11-month highs. By mid-July, the US S&P500 and the Dow Jones Industrial Average had risen to record highs. Shares in Europe and Asia also strengthened after dipping initially following the vote.
The Brexit vote did lead to initial volatility in markets, but it wasn’t out of the ordinary. One widely viewed barometer is the Chicago Board Options Exchange Volatility Index (VIX). Using S&P 500 stock index options, this index measures market expectations of near term volatility.
The chart above shows a slight rise in volatility around the Brexit result. It was insignificant relative to other major events of recent years, including the collapse of Lehman Brothers, the Eurozone crisis of 2011, and the severe volatility in the Chinese domestic equity market in 2015.
Today the focus of speculation has turned to how markets will respond to the US presidential election. CNBC recently reported that surveys from Wall Street investment firms showed “growing concern” over how the race might play out.3
Exhibit 2 shows the frequency of monthly returns (expressed in 1% increments) for the S&P 500 Index from January 1926 to September 2016. Each horizontal dash represents one month, and each vertical bar shows the cumulative number of months for which returns were within a given 1% range (e.g., the tallest bar shows all months where returns were between 1% and 2%). The blue and red horizontal lines represent months during which a presidential election was held. Red corresponds with a resulting win for the Republican Party and blue with a win for the Democratic Party. This graphic illustrates that election month returns were well within the typical range of returns, regardless of which party won the election.
Predictions about presidential elections and the stock market often focus on which party or candidate will be “better for the market”. Exhibit 3 shows the growth of one dollar invested in the S&P 500 index over nine decades and 15 presidencies (from Coolidge to Obama). It shows no obvious relationship between presidential party affiliation and long-term stock market performance. Over the long run, the market has provided substantial returns regardless of who controlled the executive branch.
Are you willing to make investment decisions based on this sort of speculation? Remember, the speculation comes from the same news outlets that pronounced on Brexit? Not only must you correctly forecast the outcome of the election, you have to predict how the market will react.
None of this is intended to downplay the political and economic difficulties of the outcome of an election. But it does illustrate the dangers of basing an investment strategy on speculation.
Markets incorporate news instantaneously so your best protection against volatility is diversification across and within asset classes. Stay the course by remaining focused on long-term investment goals not short-term speculation.
Protect yourself against market volatility. Take our simple four question survey to identity your risk level and place you in one our diversified portfolios. Or contact one of our advisors for a short conversation and protect yourself today.
- “Brexit Raises Risk of Global Recession as Financial Markets Plunge,” Washington Post, June 24, 2016
- “Brexit and the Making of a Global Crisis,” Financial Times, June 25, 2016
- “Investors are Finally Getting Nervous about the Election,” CNBC, July 13, 2016
Past performance is not a guarantee of future results. Indices are not available for direct investment; therefore, their performance does not reflect the expenses associated with the management of an actual portfolio. The S&P data is provided by Standard & Poor’s Index Services Group.