How Much Do Elections Affect the Stock Market?

As we near the upcoming election, you've probably seen some pretty dramatic predictions about what will happen to the economy if one side or the other wins. While the outcome of this particular election is hard to predict (not just nationally, but for state and local offices as well), economists have identified some market behavior that's sure to occur.

Just the fact that we're having an election tends to increase uncertainty. Investors don't like uncertainty. And so it tends to make them react more strongly to market information. "In the absence of a clear consensus about the (election) outcome," writes economist Clive Walker, "we see larger daily price changes that seem to offset each other."1 In other words, we might see bigger swings both up and down, but in the long run stock prices will likely remain largely unchanged.

Businesses also don't like uncertainty. One study found that U.S. firms tend to reduce investment expenditures during election years, which can depress the market. On the other hand, older research suggests that politicians often attempt to boost the economy before elections. So again, a significant long-term effect seems unlikely to occur much less persist for any meaningful time period.

Uncertainty can continue after the election, as everyone waits to see what new policies will be enacted by the winners. These changes are most likely to affect industries that are sensitive to government spending. This includes sectors like healthcare, defense, and finance. Additionally, new tax policies will also have some effect.

While politicians may promise a chicken in every pot and a new car in every garage, the economy is just too complex and economic cycles are simply too long to guarantee immediate prosperity. However, economic promises resonate strongly with voters, so politicians are not going to stop making them.

As an investor, expect to see increased volatility, especially when the national race is so closely contested. And expect the market to overreact in the short-term while investors wait for the dust to settle.

Elections are important. As free citizens we have both the privilege and responsibility to vote. So, we encourage you to get out your voter's guide and make your best-informed decision about who should be in charge of our local, state, and national governments. Be sure to VOTE on Tuesday, November 5!

1. http://go.pardot.com/e/91522/ctions-affect-the-stock-market/95p293/2481651518/h/oH3n8jf3As-e466P8F-2qlfvueQ5Xti9cXeGPsY-V-A