When people think about cycles in the stock market, they tend to look at the obvious drivers of stock prices:

major forces such as the state of the economy, the level of corporate profits and conditions in global markets. But did you know that a presidential election itself can be a key pivot point in stock price trends?

Consider the average yearly performance of the stock market in the table below. After accounting for random volatility, average presidential election year performance was slightly below overall average performance.

But look at the other years in the election cycle. The first two years of presidential terms have, on average, lagged significantly. But then, in the third year, the market made up the lost ground and more.

What’s Going On?

Election years tend to have a degree of uncertainty over the future direction of the country, and the market may translate that uncertainly into some reluctance to commit on the part of investors. Then, after the direction is set, it may take some time for policy changes to assert any influence, further depressing investment demand. By the third year, clarity could return and investors could embrace the future. 

Exceptions May Be More Powerful Than the Generalities

Keep in mind that the amount of variation in annual returns is substantial, and is reflected in the high variability, measured by standard deviation. As a consequence, the chances are good that performance in any given year could end up being far different from the average for its category.

That becomes clear when looking at the extremely good and extremely bad performing years in the S&P 500 performance data set. The four best years were 1928 (44%), 1933 (53%), 1935 (60%), and 1954 (52%). The four worst years were 1931 (-41%), 1937 (-34%), 1974 (-26%), and 2008 (-37%).

No two of the extreme up years occurred at the same point in an election cycle, neither did any two of the extreme down years. Three of the extreme years are associated with Democratic incumbents and five with Republican incumbents.

Ultimately, six of the eight extreme performance years were associated with unpredictable macroeconomic tidal waves – the Great Depression, the oil price shock (when energy prices quadrupled in a few months), and the recent financial crisis – events much bigger than any election news.

So if you are thinking of cashing in on an election year rally – or selling before an election year rout – think again. As history has shown, trying to time the market–for whatever reason – is often a loser’s game. Instead, work with your financial advisor to determine an appropriate long-term asset allocation that suits your goals and needs.

– Denis Poljak

If you’d like to learn more, please contact King Poljak Group at Morgan Stanley. Article provided courtesy of a Morgan Stanley Financial Advisor. The author(s) are not employees of Morgan Stanley Smith Barney LLC ("Morgan Stanley"). The opinions expressed by the authors are solely their own and do not necessarily refl ect those of Morgan Stanley. The information and data in the article or publication has been obtained from sources outside of Morgan Stanley and Morgan Stanley makes no representations or guarantees as to the accuracy or completeness of information or data from sources outside of Morgan Stanley. Neither the information provided nor any opinion expressed constitutes a solicitation by Morgan Stanley with respect to the purchase or sale of any security, investment, strategy or product that may be mentioned. Morgan Stanley Financial Advisor(s) engaged The Forum to feature this article. King Poljak Group may only transact business in states where they are registered or excluded or exempted from registration MorganStanleyFA.com/Poljak. Transacting business, follow-up and individualized responses involving either effecting or attempting to effect transactions in securities, or the rendering of personalized investment advice for compensation, will not be made to persons in states where King Poljak Group is not registered or excluded or exempt from registration. © 2016 Morgan Stanley Smith Barney LLC. Member SIPC. CRC 1362931 [12/15]