How to Invest in the Presidential Cycle

The presidential campaign season has started early, with a slew of Democrats hoping to challenge President Donald Trump. Investors with some mad money and a taste for risk might think about betting on the outcome.

Stocks in fossil fuel companies, for instance, are more likely to prosper under Republicans than Democrats, while renewable-energy firms might do the opposite. In fact, it’s hard to find an industry that isn’t influenced by national policy set in motion by presidential elections.

J. Douglas Wellington, associate professor in the School of Business and Management at Husson University in Bangor, Maine, says gamblers should start by studying candidates’ platforms.

“Look at the industries that might benefit if that candidate wins,” he says. “For example, if you thought President Trump was going to win, and that he would be able to get increased spending for the military, you should have bought defense stocks.”

[See: 10 of the Best Stocks to Buy for 2019.]

Financial advisors are quick to point out that ordinary investors focused on college and retirement do best with a broadly diversified portfolio designed for the long term. Betting on Washington is probably a loser’s game in the long run.

“It would certainly be foolish for ordinary Betting on Washington is probably a loser’s game in the long run.investors to bet the farm on any historical pattern, but as Mark Twain once said, ‘History doesn’t repeat itself, but it does rhyme,'” says Robert R. Johnson, professor of finance at the Heider College of Business at Creighton University.

Still, holding a few broad-market index funds for decades is pretty boring, and there’s nothing wrong with betting on short-term swings if you can afford to lose. So how do markets behave during the four-year presidential cycle? There’s lots of history on that.

A study by Charles Schwab, for instance, is promising for the coming year, showing that the S&P 500 has returned an average of 16.4 percent in the third year of the presidential term during the 16 presidential election years since 1950. That beats the 6.5 percent in the first year, 7 percent in the second and 6.6 percent in the fourth year.

Zeroing in, the study shows that the best performing sectors in the third year have been information technology, energy and industrials; the worst are financials, consumer staples and utilities.

Other studies show that pro-business Republican policies don’t necessarily translate into better results than pro-regulation Democratic ones, according to data by the Socioeconomist: “It is true that from 1926 to 2011, the Dow’s average annual rate of return under Democratic presidents was 9.77 percent, while under Republicans it was 4.57 percent, less than half as much,” it says.

[Read:10 Ways to Maximize Your Retirement Investments.]

But it notes the results are skewed by a few extreme periods, such as the Great Depression and the following few years, and that for practical purposes market performance is about the same under the two parties — or not different enough for betting on a sure thing.

Why is the second half of the term better than the first?

“The basic premise is that our elected leaders want to get the bad news out early in their terms so they or their party stands a better chance of getting reelected,” Johnson says. “Historically, the Federal Reserve has pursued a more accommodative policy during the final two years of a president’s term. Policymakers have been reluctant to assume a restrictive stance in the months leading up to a presidential election.”

He cautions, however, that market experts have forecast a downturn in corporate earnings that could hurt stocks this year.

Stocks probably do worse at the start of a presidential term because of uncertainty about the effect of new leadership and policies, says Tenpao Lee, professor of economics at Niagara University.

“It is not about whether the new policies are good or bad,” he says, “It is about the investors’ making decisions that are based on (uncertain) conditions.”

Lee and Johnson point out that in any given year some factors can upend long-term patterns.

“This year is unique as trade issues have evolved with China,” Lee says, adding that Trump’s leadership style “adds another layer of uncertainty to the markets.”

[See: How to Pick Stocks: 7 Things You Should Know.]

Investors accustomed to using funds won’t find any devoted to the election cycle, Johnson says. They can bet the broad market through index funds, or use funds devoted to specific sectors. Those with really strong feelings and a thirst for risk can use options on individual stocks or exchange-traded funds for the broad market of narrow sectors. With options, you can bet on market losses as well as gains.

But the pros warn that any bet on relative short-term market moves is speculation, not investing.

“Don’t use the stock market to bet, you’ll lose,” says Michael Tanney, managing director of New York City-based Wanderlust Wealth Management. “Use the stock market as a vehicle for long-term compounding growth.”

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