With Pending Volatility Looming With Elections, How To Best Position Your Portfolio
Political events tend to impact financial markets — at least in the short term. In November 2024, we will experience a major political event — a contentious national election. What could the election do to the financial markets, and how could it impact your personal investment portfolio?
How Elections Typically Impact the Stock Market
Every four years, we elect the president, vice president, one-third of the Senate, the entire House of Representatives, and many state and local officials. In the middle of those four-year stretches, we conduct midterm elections in which we vote on another third of the Senate, the full House, and many other state and local offices. Each election has the potential to upset the balance of power in Washington, DC and take the country in a new political direction
Historically, short-term market performance may be linked to election-year cycles. US Bank reports that the S&P 500 typically returns just 0.3% in the 12 months leading up to a midterm election, a number that jumps to 16.3% in the 12-month period after the election.
Much of this fluctuation is based on emotion. Investors tend to wait nervously to see who will be elected and then find relief in the certainty of knowing. On November 8, 2016, Donald Trump unexpectedly defeated Hillary Clinton for the presidency, and stock futures plunged overnight as observers fretted about a Trump administration. The very next day, however, the Dow Jones Industrial Average leaped 250 points, closing just shy of new all-time highs for that period.
Gloom and pessimism lasted one night, and of course, the rally eventually leveled off as well. Emotional buying and selling creates thrilling headlines but rarely makes significant changes in the market.
All election-related market effects are not emotion-driven, however. The election can serve as an indicator of how the market is performing. When things look bright, voters typically return the party in power, and when the economy appears dull, they tend to overturn the status quo. Which party actually wins, though, appears to have little effect on the market's performance over the subsequent 12+ months.
Over time, long-term economic factors, not political ones, drive the market. Unfortunately, however, investors tend to cash out during election years. Some researchers say the amount of money flowing out of the market in election years is triple the outflow at any other time. In other words, skittish investors are abandoning their investments, but in doing so, they're letting braver souls reap the benefits.
Investors who cut and run during election years are likely forgetting an important reality: the market bounces back. Historically, stock prices have nearly always shot up when the primary season is over. In the last 24 presidential election cycles, the market has made money 20 times (84% of the time). The most recent outliers were the 2000 presidential election, during the Dot.Com bubble burst, and 2008, when the Great Recession hit. No matter how you feel about the winning candidates, you’re likely better off keeping your money in the market (unless maybe your wealth management advisor tells you differently).
Positioning Your Portfolio During Volatile Periods
Putting aside the existing uncertainty in today's stock market, the contentious election season (on its own) has investors wondering what the market will do over the next year or so. If history is any indication, we may be in for quite a ride. How might you keep your portfolio safe in 2024?
Stay in the Market.
Your most effective investment strategy is often time in the market. Nothing may be as valuable as putting your money into a long-term investment and leaving it there to work for you over the long term. Consider three example investors:
Investor A puts $1,000 in the market then adds $200 a month, receiving an 8% annual return. She starts investing at age 22 and stops at age 67. Her net worth? $1.1 million.
Investor B puts in the same initial investment and the same $200 a month at the same return. He starts investing at age 27 and stops at 67. His net worth? $727,100.
Investor C follows the same process at the same amounts — $1,000 down and $200 a month at 8%, but she didn’t start investing until age 32. Her net worth? $478,100.
The $621,900 difference between investor A and investor C is primarily due to 10 years in the market — nothing else. If you bail out during an election year, you lose time in the market, time when the market could have been surging and your money could have been growing.
Diversify Your Portfolio.
By spreading your investments across different asset classes (or types of investments), you can potentially reduce the risk of significant losses in any one area. Diversification allows you to benefit from the potential growth of various industries and sectors, while also offering a potential cushion against the impact of negative market events.
You might consider investing in a mix of stocks, bonds, real estate, and commodity investments to create a well-rounded portfolio. While diversification does not guarantee profits or protection, it can be an effective tool for managing portfolio volatility and risk.
Allocate Assets based on Information, not Speculation.
Nobel-winning economist Paul Samuelson said, “Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas.”
Making and keeping money often relies on hard data, cold facts, and unforgiving math. Political speculation is based on feelings, headlines, and beliefs. It can be a mistake to confuse the two.
Boring investing is often smart investing. That means you probably shouldn't change your portfolio based on what a political commentator has to say about the election, and you certainly shouldn't make investment decisions based on the-sky-is-falling rhetoric. If a competent and trusted wealth manager tells you the math works, then you might want to stick with the math — no matter how you feel about the leading presidential candidates.
Stocks performed well under Bush, Clinton, Reagan, Ford, and Trump. Bill Clinton, a Democrat, saw the best performance of the S&P 500. Calvin Coolidge, a Republican, oversaw the best performance of the Dow Jones. And Donald Trump, a Republican, experienced the best performance of the NASDAQ. Each of those presidents faced opponents who claimed that their win would spell disaster. It never happened.
Considerations for Sector Allocation
While overall market performance appears to be independent of political party, we know that economic policies do influence investors' returns. This makes people ask: Do certain sectors of the market perform worse or better during an election year?
Historically, yes, they do, and there's math to prove it. Dispersion, or the index-weighted standard deviation of returns, shows us that in election years the gap between high-performing sectors and low-performing sectors often widens. To put it simply, if you win, you win bigger; if you lose, you lose bigger.
So who wins and who loses?
Materials, industrials, healthcare, and energy did well in 2020, the last election year. Utilities is the major sector that underperformed. However, in 2020, many utilities stocks still made money, just not as much as other companies in other sectors.
Remember, though, that the past is not necessarily a prologue to the future. Will we see the same sectors perform the same way in 2024 as they did in 2020? Only time will tell.
What are Safe-haven Assets in Times of Volatility?
The safest assets are usually cash, stable foreign currencies, and government bonds. In some instances, precious metals and defensive stocks may also offer shelter. Gold is probably the most well known of these assets, and data shows that it can provide stability in times of uncertainty or a down market, but if you have a long time horizon, be aware that gold historically lags behind stocks in returns.
Backed by the federal government, U.S. Treasury bonds are among the safest investments you can buy. Cash, although not typically a long-term investment, provides liquidity and the ability to seize opportunities that may arise during volatility.
Of course, these safe-haven assets are also often the lowest-earning investments, in some cases, not even keeping up with inflation. When you buy them, you typically trade growth for safety.
Is that a smart trade?
It might be. The answer depends on a wide variety of factors unique to you. Only you, and often with the help of your financial advisor, can determine if you should take your money out of growth stocks and park it where the environmental threats may be less fierce.
Will the Economy Bounce Back in 2024?
Economic prognosticators are grappling with a lot of pending factors as they look at the future.
China's GDP growth could raise the price of oil. Companies could have to refinance lines of credit at higher rates, which means they won't be buying back stocks. Wage inflation could lower corporate earnings. Demand could fall. Consumer confidence could decline. The world's governments could de-dollarize. A lot could happen.
On the bright side, unemployment remains low. Inflation is slowing. Revenues could rebound. The Fed is likely done raising rates. Housing markets could stabilize. Anything could happen.
Since anything could happen in 2024, you likely need to have a plan, stick with it, and don't want to try to go it alone.
The Value of Seeking Professional Investment Advice
Volatility (these ups and downs) is a normal part of investing and one that markets tend to recover from over time. During times like these you might find it helpful to avoid checking your portfolio constantly and instead, focus on the bigger picture. Stay informed about market trends and developments, but don't let short-term market movements dictate your investment strategy. By staying calm and focused, you might be able to avoid making rash decisions that may negatively impact your portfolio.
Financial advisors and investment professionals have the knowledge and expertise to help you make informed decisions about your portfolio. They can provide valuable insights into market trends, potential risks, and investment opportunities. Additionally, they can help you develop a comprehensive investment strategy that aligns with your financial goals and risk tolerance.
If you want to talk about portfolio positioning in advance of what could be a tumultuous 2024, give us a call at Cooke Wealth Management. We would love to talk with you.