Investing in an Election Year

Election years can be many things. On a positive note, they’re an exciting opportunity to participate in our country’s democratic process and select new leaders. On the other end of the spectrum, they can be a time of heightened divisiveness and fear.

For the 24-hour news cycle, election years are like the Olympics. It is an opportunity to keep our eyeballs glued to our TVs, phones, and computers, processing each candidate’s latest victory or defeat.

And what’s one of the media’s favorite tactics to keep us engaged?

Fear.

If they can keep us worried about the future, we must keep tuning in to find out when things will improve.

At this point, you may be thinking, “Hey, I thought this was an investment article…”

It is, but we need to acknowledge WHY election years are different from any other year in the stock market.

Although we’d love to think of the stock market as a purely logical system based strictly on the returns of the underlying companies, the truth is that emotions play a huge role in both the overall market, and the success of your individual portfolio.

If you get anything from this article, it should be this: Investing during election years is an exercise in not letting your emotions drive your decisions.

Election year stock market facts

Here’s what history tells us about what happens in election years:

• U.S. Stocks have trended up regardless of whether a Republican or Democrat won the election.
• Primary season tends to be volatile, but markets have bounced back strongly afterward.
• Investors tend to get nervous and move to cash during election years.
• Staying on the sidelines during election years has rarely paid off.

Let’s start with that first bullet point. Would it surprise you to know that markets have actually done BETTER in election years than in non-election years?

Since 1860, a 60/40 (stock/bond) portfolio has had an average annual return of:

• Presidential election years: 8.7¹%
• Non-presidential election years: 7.7¹%

There’s another misconception that one party is “better” for the market than another. In reality, returns under Democratic and Republican presidents have been almost identical:

• Annual compound return under a Democratic President: 8.4¹%
• Annual compound return under a Republican President: 8.2¹%

 

As always, when it comes to investing, staying invested, no matter the circumstance, is the best way to make money over time.

Hypothetical investor study

In case you need additional data to back that up, Capital Group ran a study² that looked at three hypothetical investors over the 22 election cycles since 1932.

Investor 1: Invested $10k on Jan 1st of the election year and kept it invested through the 4-year presidency.

Investor 2: Was uncomfortable investing all $10k up front, but instead decided to invest $1k/m for the first 10 months of the election year and then held that investment until the end of the 4-year presidency.

Investor 3: Was the most nervous about the election. They held their $10k investment out of the market during the election year and invested it all on Jan 1st of the following year. They also held it until the end of the 4-year presidency.

Here are the results:

Investor 1: On average, their $10k turned into $15,865, the highest of the 3 investors. They had the best outcome in 14 of the 22 cycles.

Investor 2: On average, their $10k turned into $15,738, only slightly behind investor 1 and the second-highest return. They had the best outcome in 5 of the 22 cycles.

Investor 3: On average, their $10k turned into $14,936. Still a positive return, but the lowest of the 3. Investor 3 only had the best outcome in 3 of the 22 cycles.

Psychology of Investing

Now you have the data, but will that be enough?

As much as we’d like to believe that we’re perfectly rational in our decision-making, psychology experts would beg to differ. Humans succumb to many psychological “biases” that impact our behavior and drive our decisions.

One example is “Herding Bias”. Herding Bias is when we follow the crowd instead of thinking independently.

When everyone around you is talking about how “if this candidate wins, it will be the end of the world”, it can be difficult to keep a level head. Especially when it comes to your life savings.

Even professional athletes fall victim to thinking that they can “outsmart” the statistics. Statistics show that the best strategy for a goalkeeper during a penalty kick is to stay in the middle of the goal. But goalkeepers jump left or right 94% of the time.

Listening to historical data can be hard when we just know that “this time will be different”.

In reality, investing in the market requires facing a continuous cycle of unknowns. The fear and uncertainty we face is just the “price of admission”. Election years are no different.

So, how should you invest this year? As long as you’ve thoughtfully considered your investment strategy and risk tolerance, you probably shouldn’t change a thing. Just strap in and enjoy the ride.

If you don’t feel confident in your investment strategy or your ability to keep a level head and would like feedback from a Financial Planner who specializes in helping Federal Employees, feel free to book a complimentary Financial Checkup. For topics covered in even greater depth, see our recorded webinars here.

Sources:

1. Vanguard calculations, based on data from Global Financial Data (GFD) as of December 31, 2022.
2. Capital Group, Board of Governors of the Federal Reserve System (US), RIMES, Standard & Poor’s.

 

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.

Investing involves risk, including loss of principal. No strategy assures success or protects against loss.

The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

This is a hypothetical example and is not representative of any specific situation. Your results will vary. The hypothetical rates of return used do not reflect the deduction of fees and charges inherent to investing.