The crowded race for the 2016 presidential nominations will soon start to thin out. The election buzz? Well, that will only grow. While political banter heats up and polished TV commercials blare into your living room, you may be surprised to learn that the presidential cycle traditionally has an impact on the stock market, too.
Presidential elections affect the economy and the stock market much as the moon affects the tides, says Jeffrey A. Hirsch, editor at the Stock Trader’s Almanac and Almanac Investor.
As we head into the final stretch of the third year of the so-called presidential cycle—which is also the pre-election ramp up—it's worth taking a quick look at what this cycle has traditionally meant for the stock market.
Historically, wars, recessions, and bear markets tend to be seen in the first two years of a four-year presidential term as the new incumbent gets down to business with political and economic moves that are sometimes unpopular, but perhaps necessary. Typically, stronger economic cycles and rising stock markets emerge in the latter two years of the cycle, Hirsch says.
Mostly Impressive Historical Results
Since 1939, the Dow Jones Industrial Average (DJIA) (ticker: $DJI) has never had a losing year in the third year of the presidential cycle, Hirsch says. For one thing, incumbent administrations try to make the economy look good during pre-election years to impress the electorate. They tend to put off unpopular decisions until the votes are counted, he explains.
"The third year is the time when presidents do everything in their power to juice up the economy so that voters are in a positive mood at election time," explains Hirsch. He crunched the numbers on the blue-chip Dow going back to 1833. Hands down, the third year of the presidential cycle shows the best historical performance out of the four-year cycle. The outsize gains of the third years "illustrated unsubtle manipulation of the economy by incumbent administrations," Hirsch says.
- In the DJIA, third years have averaged 10.4% annual gains versus low single digits for the other three years in the presidential cycle
- Since the last third-year loss in 1939, the third-year average gain has jumped to 16%
As with everything in life, there are caveats.
"We have found that the second third year of two-term presidents is not as strong," Hirsch warns. Lame-duck presidents may have used up most of their political capital and thus be less able to stimulate and rev up the economic engine and in turn the stock market. And, of course, the congressional configuration matters. For instance, does the president’s party have control?
And in the Fourth Year?
Brace yourself, especially if the election and its lead-up produce a party shift in the White House.
"The fourth year has weakened in recent years and is much worse when incumbent parties lose. Since 1900, the DJIA is up 15.1% when the incumbent party wins and down 1.4% when the incumbent party loses," Hirsch notes.
Discover Solutions-Driven Stocks
Track the economic and political cycles that may influence your investing strategy. Tap TD Ameritrade’s third-party research.