How The US Elections Could Affect All Markets
The US election s on 5 November and it could have a significant impact on almost every asset class in some shape or form.
Election cycles can have a significant impact on trading patterns in financial markets. Investors often adjust their strategies based on expected political and economic changes that accompany elections. Here are some common election cycle patterns in trading:
1. Presidential Election Cycle Theory
This theory suggests that U.S. stock market performance tends to follow a predictable pattern over a four-year presidential cycle.
Historically:
Year 1 (Post-Election Year): Markets often exhibit lower returns or even decline as the new administration implements its policies, which might include economic reforms or spending cuts that can be seen as negative for growth.
Year 2 (Midterm Election Year): Historically volatile, midterm years often bring market uncertainty as new policies settle in. However, the second half of the year tends to show stronger performance.
Year 3 (Pre-Election Year): This is often the strongest year for stock markets, as governments focus on stimulating the economy and boosting growth ahead of the next election.
Year 4 (Election Year): Markets tend to be cautiously optimistic as investors speculate on the outcome. Uncertainty can cause some volatility, but returns can improve toward the end of the year once the results are clear.
2. Sectoral Impacts
Certain sectors are more sensitive to changes in political leadership, regulations, and government spending:
Defense and Infrastructure: These sectors often see increased volatility around elections, as policy shifts can lead to changes in government contracts and spending.
Healthcare: Policy changes regarding healthcare coverage or pricing (like Medicare reform) can lead to significant movements in healthcare stocks.
Energy: Energy stocks can be sensitive to election outcomes based on policies related to climate change, oil production, and renewable energy support.
Technology and Financials: These sectors may also be impacted by tax policies, regulations, and trade policies introduced by the incoming administration.
3. Market Volatility
Election cycles, especially in the months leading up to elections, tend to increase market volatility due to:
Uncertainty: Investors are unsure of which policies or regulations will be enacted after the election, and markets dislike uncertainty.
Polling Data Influence: As polling data fluctuates, certain sectors or stocks may experience sharp movements in anticipation of potential outcomes.
4. Partisan Impact
There are perceptions that stock markets may perform differently depending on whether a Republican or Democrat wins the election:
Republicans: Generally perceived as more business-friendly, leading to expectations of lower taxes and less regulation. This can boost market sentiment, particularly for corporations.
Democrats: May prioritize social programs and regulations, potentially leading to expectations of higher taxes or more regulation, which can weigh on certain sectors like financials but may boost others, like clean energy.
5. “Sell in May and Go Away”
This adage refers to the tendency for stock market returns to be lower from May to October, which sometimes coincides with election cycles. Investors may hold off on major decisions until after elections, creating lower liquidity and weaker returns during this period.
Other countries’ elections (e.g., the UK, Germany, or emerging markets) can also affect global markets, especially in interconnected economies. Global trade, defense agreements, and regulatory changes can influence how investors approach international markets during elections.
7. Post-Election Rally or Drop
After an election, markets typically experience a “relief rally” if the outcome is favourable or expected. Conversely, if results bring unexpected changes or uncertainty, there can be a sharp drop. Trading patterns during election cycles are driven by investor anticipation of policy changes, uncertainty, and sectoral impacts. Traders often modify their strategies to hedge against volatility or capitalise on potential market shifts based on likely outcomes.
Kind regards,
Thinus
