With elections right around the corner, many clients have been asking us what the results could mean for the markets. So, without further ado, here are four things you should know about the relationship between midterms and markets. <\/p>\n\n\n\n
1. The stock market usually dips before a midterm election.<\/em><\/p>\n\n\n\n As you know, this has been a rough year for the stock market. Both the Dow Jones and the S&P 500 have flitted in and out of bear market territory for several months. But while this type of volatility is never fun, in a sense, it\u2019s pretty typical. Why? Because, historically, markets have fared the worst during midterm-election years. In fact, according to one study, the S&P 500 averages a 19% decline in the months before a midterm!1<\/sup> <\/p>\n\n\n\n Of course, there are many reasons why the markets rise and fall. The single biggest reason this <\/em>year, of course, is stress over inflation and the Federal Reserve\u2019s response to it. But midterm elections often tend to drag the markets down on their own. The reason can be summed up in a single word: Uncertainty. <\/em><\/p>\n\n\n\n As you can imagine, the months leading up to a midterm come with a lot of questions. Which party will control Congress come November? What new legislation can we expect? How will the results affect our taxes, healthcare, and budget? Pundits earn their living by making predictions. The fact is, no one knows what the future will bring until the future becomes the present. <\/p>\n\n\n\n The markets, of course, are allergic to uncertainty. It\u2019s the driving force behind many a market pullback. And with so much uncertainty before a midterm election, it\u2019s not surprising the markets would struggle. <\/p>\n\n\n\n 2. After the fall comes the bounce. <\/em><\/p>\n\n\n\n Now for some good news: Historically, the markets enjoy a major rally in the third year of a president\u2019s term. The S&P 500, for example, usually climbs <\/em>an average of 32% in the twelve months after a midterm election.2<\/sup><\/p>\n\n\n\n If you think about it, this makes sense. After an election, uncertainty begins to fade as we gain a better idea of which party holds the cards and what their agenda will be. Just as uncertainty drags the markets down before <\/em>an election, the resolution of uncertainty often pushes the markets back up!<\/p>\n\n\n\n Now, there\u2019s an important caveat here: Past performance doesn\u2019t guarantee future results. <\/p>\n\n\n\n This little bit of market wisdom is always <\/em>true \u2013 and it\u2019s especially worth remembering now. You see, most years after a midterm, investors don\u2019t have to worry about the threat of a recession. <\/p>\n\n\n\n For months, the Fed has been trying to follow an incredibly tricky recipe: Bring down inflation without <\/em>bringing down the economy. To do this, they have attempted to raise interest rates gradually and incrementally. Unfortunately, the effects have been minimal thus far. That means more <\/em>rate hikes are likely in the future. Each one brings an increased risk of a recession in 2023, and if that happens, all bets are off regarding how the markets might react. <\/p>\n\n\n\n Indeed, history shows that the markets sometimes don\u2019t <\/em>do well after a midterm whenever there is slow economic growth mixed with high inflation and rising energy costs. This was often the case in the late 1960s and 1970s\u2026and it\u2019s just the sort of stew our country finds itself in right now. <\/p>\n\n\n\n On the other hand, even a recession \u2013 real or merely imagined \u2013 doesn\u2019t mean 2023 will be a bad year for stocks. The markets move more on the expectation <\/em>of future events than the events happening right now. It\u2019s quite possible that, as 2022 winds down, the markets will have already priced in the threat of a recession. That means investors may be more likely to act on the anticipation of future good <\/em>news instead of overreacting to bad news that was already expected. <\/p>\n\n\n\n Whatever the markets do after the midterms, though, there\u2019s one thing you can rest easy about: It won\u2019t matter which party \u201cwins\u201d in November. <\/p>\n\n\n\n 3. Historically, the markets don\u2019t care which party is in control of Washington.<\/em><\/p>\n\n\n\n Whether you\u2019re a passionate Republican, devoted Democrat, or something in between, the fact is that the markets aren\u2019t as partisan as people. <\/p>\n\n\n\n Talking heads can argue till the cows come home about which party is better for the markets, but I\u2019m not going to get into that here. (It\u2019s not like you need another political pundit in your life!) History shows that, while some years rise higher than others, the markets tend to rise after an election no matter which party is in power. <\/p>\n\n\n\n The reason for this is simple. While politics certainly play a role, the markets are affected by many<\/em> things \u2013 and Washington is not at the top of the list. Corporate earnings. Supply and demand. Interest rates. Inflation. Housing prices. Employment. I could go on. And while it\u2019s true that the government has an influence on many of those things, the government does not <\/em>dictate the daily rhythm of the markets.<\/p>\n\n\n\n If you think about it, the markets are sort of like our own bodies. Our health is determined by what we eat, how much we exercise, our sleep, personal hygiene \u2013 and of course, by things we can\u2019t control, like our own genes. In this case, politics are to the markets what brushing your teeth is to your overall health. Both very important, but not always the difference between life or death. <\/p>\n\n\n\n As I mentioned earlier, the S&P 500 usually rises after an election. That\u2019s been true regardless <\/em>of which party is in the White House or controls Congress. Where things get a little interesting is whether the government is united <\/em>or not. <\/p>\n\n\n\n As of this writing, polls suggest that Republicans are favored to take back the House3<\/sup>, while Democrats will keep the Senate.4<\/sup> If this happens, the result will be Congressional gridlock. Gridlock is rarely fun for us citizens, but the markets tend to take it in stride. That\u2019s because gridlock usually means maintaining the status quo in terms of economic policy \u2013 and the status quo is something investors know how to handle. <\/p>\n\n\n\n Even if one party wins both <\/em>chambers of Congress, though, you can make an argument for why it could be a boon for the markets. For example, if Republicans take control, it\u2019s unlikely we\u2019ll see any new tax changes or regulations that could affect corporate earnings. On the other hand, if Democrats retain both chambers, there\u2019s a stronger chance of more fiscal stimulus, which investors have grown to rely on in recent years. <\/p>\n\n\n\n The point is that history shows the markets are as politically unbiased as you can get in this country. Which brings me to the fourth and final thing to know about the upcoming midterms:<\/p>\n\n\n\n 4. We never make investment decisions based on politics. <\/em><\/p>\n\n\n\n No matter if you wear a red baseball cap or a blue one, you should never make financial decisions based on politics. <\/em> <\/p>\n\n\n\n This is especially true when it comes to your investments. Choosing whether to buy or sell based on who you think will win an election is the opposite of having an investment strategy. It\u2019s investment speculation<\/em>. And given how passionate many of us are about politics, it can severely color our thinking. How many people missed one of the longest bull markets ever because they disliked President Obama? How many people missed the \u201cTrump Bump\u201d because they disliked President Trump? <\/p>\n\n\n\n It\u2019s true that the midterms \u2013 both before and after – do impact the markets somewhat. But that doesn\u2019t mean we should change or abandon our strategy. Make no mistake: This is an important time of year. It\u2019s a time when we, the people, get to decide the direction of our country, state, and local communities. <\/p>\n\n\n\n But it\u2019s not <\/em>the time for changing the direction you take toward your financial goals. <\/p>\n\n\n\n I hope you\u2019re able to vote next month. In the meantime, if you have any questions or concerns about Washington, the markets, or your portfolio, please feel free to contact us. If there\u2019s one thing I can guarantee, it\u2019s that we\u2019re easier to get in touch with than your local politician! <\/p>\n\n\n\n On behalf of everyone at Garrett & Robinson, have a safe and stress-free election day!<\/p>\n\n\n\n Sincerely yours,<\/p>\n\n\n\n Joe Garrett<\/p>\n\n\n\n 1<\/sup> \u201cWhy Wall Street shouldn\u2019t sweat the midterms,\u201d CNN Business, <\/em>October 6, 2022. https:\/\/www.cnn.com\/2022\/10\/06\/investing\/stocks-midterm-elections\/index.html<\/a><\/p>\n\n\n\n 2<\/sup> \u201cMidterm Elections: The Politics of the Stock Market,\u201d Forbes, <\/em>October 2, 2022. https:\/\/www.forbes.com\/sites\/bill_stone\/2022\/10\/02\/midterm-elections-the-politics-of-the-stock-market\/?sh=35dcd0171cc7<\/a><\/p>\n\n\n\n 3<\/sup> \u201cRepublicans are slightly favored to win the House,\u201d FiveThirtyEight, <\/em>accessed October 6, 2022. https:\/\/projects.fivethirtyeight.com\/2022-election-forecast\/house<\/a><\/p>\n\n\n\n