Ignore Elections — Focus on the Long Term

October 31, 2019

As 2019 draws to a close, we’ve started to field an increasing number of questions about the potential impact of next year’s U.S. Presidential election. Specifically, clients are concerned about the potential impact that specific candidates and the policies they’ve advocated may have on the economy, the stock market, and their portfolio. For that reason, we thought it would be helpful to take a step back and think about how we can prepare for next November.

First, and most important, we feel the need to reiterate our focus on the long-term. As we’ve noted many times in recent years, we do not believe that it’s intelligent for investors to spend their time trying to predict the timing and/or magnitude of short-term market corrections. A faulty step in that endeavor could lead investors to potentially miss out on the material long-term value creation that is offered from equity ownership (or at least has been offered historically).

Second, we have found that predictions about major events — like Presidential elections — often have little to no value. The most obvious recent example was the 2016 Presidential election.

As the election approached, the consensus among market prognosticators was that a win for Hillary Clinton would mean a steady climb higher for the S&P 500. On the other hand, the uncertainty of Donald Trump was expected to result in a swift move lower for equity markets (as an example, the world’s largest hedge-fund firm predicted an immediate decline of 10%). In the weeks leading up to the election, there was a clear pattern in the market: Anything good for Hillary Clinton’s chances of winning the presidency was good for equities, broadly speaking.

When the votes were tallied on November 8th, the unexpected happened: Trump emerged as the winner. On Tuesday night, as reality set in, futures markets around the globe moved sharply into the red, just as many had predicted: Dow futures were down more than 700 points at the lows, with S&P 500 futures trading halted after a 5% plunge.

But then the losses started to abate. By the time markets closed on Wednesday, November 9th, the S&P 500 was up more than 1% for the day. By year-end 2016, the S&P 500 was up 5% from where it closed on Election Day. For the year, the total return for the S&P 500 was 12%.

So, just to summarize the chain of events: (1) The market sent a pretty clear signal that a Trump win would be bad news; (2) Trump won; (3) Markets moved higher.

The market reaction to the 2016 Presidential election is another telling example of just how difficult it is to correctly predict short-term price swings – even if you can correctly predict how major events will transpire, which isn’t easy to do either when making non-consensus predictions (the consensus is already accounted for in market prices).

Even after the winner has emerged, we have found that many proposed policies, once they work their way through Washington, will often be tweaked, adjusted, and / or watered down to a degree that their impact, over the course of years, may be much different than anticipated.

As an example, consider the fervor that surrounded the Affordable Care Act in 2010. Once implemented, it was expected to negatively impact much of the healthcare sector. But, over time, companies reacted to the new realities that emerged because of the law. There have been corporate actions, such as mergers and acquisitions, that actively looked to address the risks and opportunities created by Obamacare. And while there was significant uncertainty in the short-term, the results have been impressive over the long run: since the Affordable Care Act was signed into law on March 23rd, 2010, the Vanguard Healthcare ETF (VHT) had returned 14.0% per year (dividends reinvested), compared to a 12.6% annualized return for the S&P 500.

That’s a long way of saying that whoever is in charge for the next four years is probably less important than most market participants assume. Historically, market performance has not been notably better or worse with either party in the White House.

Conclusion
With the election just a year away, the predictions are starting to roll in. There are plenty of commentators who will tell you why the “wrong” winner will cause the market to fall 10% or 20%. We take the certainty of these prognosticators with a grain of salt. We’ve been here before.

As noted in a recent Bloomberg article, “That’s a lot of certainty to attach to predictions Wall Street has shown no ability to get right in the past.”

While we do not know what the stock market will do in the short-term –either following a major event or on any “normal” day — we do have a high degree of confidence in the returns offered by long-term equity ownership. Regardless of what happens in the coming months, our focus will continue to be on generating attractive, risk-adjusted returns for our clients over the long run.

If you would like to start a conversation with us about how we might help you build and manage you wealth over time, please reach out to us.

AUTHOR:

SCOTT McGHIE, CFA, CPA