Finance

How do the legislative elections in the United States affect the markets? Capital Group thinks

How do the legislative elections in the United States affect the markets?  Capital Group thinks

In a year when rising inflation, the war in the Ukraine and falling markets have grabbed all the headlines, the US midterm elections risked going unnoticed. But now they are back in the spotlight. That’s right. Matt Miller, political economist at Capital Group, believes the 2022 midterm elections could be one of the biggest in US history.

“Let’s not fool ourselves: all the decisions that have been made this year in Washington have been carefully calculated with the legislative elections in mind”Miller points out.

Control of Congress could be at stake, but Do these elections affect the equity markets?

To prove it, we have analyzed more than 90 years of data, and we have discovered that the answer is yes, the markets have behaved differently in the years of legislative elections. Here are the five things to know about investing in this political cycle.

1. The party of the US president often loses seats in Congress

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Legislative elections are held in the middle of the presidential term, and in them the president’s party usually loses representation in Congress. During the last 22 mid-term elections held in the United States, the president’s party has lost an average of 28 seats in the House of Representatives and 4 in the Senate. Only on two occasions has it managed to win seats in both chambers.

Why does this usually happen? First, supporters of the party that is not in power at the time are often more motivated to participate in elections. In addition, the president’s approval rating often falls during the first two years in office, which can influence undecided and disaffected voters.

“The Senate remains unpredictable but, as history shows, we are going to see a backlash against the party in power, which will see the Republicans take back control of Congress”Miller points out. “As far as investors are concerned, this outcome would kill any chance of ambitious Democratic proposals ever passing in the next two years.”

Being a common occurrence, markets are already discounting the incumbent party’s loss of seats early in the election year. But the scope of the political change and its consequences do not become clear until later, which may explain other trends that we have discovered.

2. The US market tends to gain little during the first months of election years

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Analysis of the returns achieved by the S&P 500 index since 1931 revealed that the path of the equity market during the years of legislative elections differs markedly from that of the rest of the years.

Markets tend to go up over the long term, so the average market movement over an average year should increase steadily. However, we found that in the early months of general election years, equity markets have tended to underperform average and gain little ground until shortly before elections.

Markets don’t like uncertainty, and this idea seems to apply here. In the months leading up to elections, the results and impact of elections are more uncertain, but markets have tended to rise in the weeks before, and have continued to do so after the polls close. So far this year, 2022 has been a typical legislative election year, with disappointing returns. Although the impact of the policy has been minimal compared to that of inflation and the rise in interest rates.

The path of the equity market varies widely from election cycle to election cycle, and the overall long-term trend of the markets has been positive.

3. Legislative election years have been more volatile

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Election years can make investors nervous. Candidates often highlight the country’s problems, and election campaigns tend to exaggerate negative messages. Political proposals can be uncertain and are often directed at specific companies or sectors.

Therefore, it is not surprising that in the years of legislative elections the volatility of the markets increases, especially in the weeks before the holding of elections. Since 1970, the standard deviation of returns during legislative election years is almost 16%, compared to 13% for all other years.

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I don’t think these elections are going to be any different. says equity manager Chris Buchbinder. “The market will see some volatility and investors should prepare for short-term volatility, but I think the outcome will not greatly affect investment results.”

4. The US market tends to post a solid performance after the legislative elections

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The good news for investors is that the markets have tended to rally strongly in the months since. And that rally, which usually begins shortly after Election Day, is not temporary: the market has typically posted above-average returns in the year after the election cycle. Since 1950, the average return one year after the holding of legislative elections has been 15%, more than double that recorded by the market during the rest of the years in a similar period.

However, every cycle is different, and elections are just one of many factors that influence market performance. For example, in the coming year, investors will have to assess the consequences of a potential recession in the US economy.

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5. The US equity market has performed well regardless of the composition of Congress

There is nothing wrong with wanting a particular candidate to win, but investors can be in trouble if they place too much importance on election results, as elections have historically had little impact on long-term investment returns.

In 2020, many investors feared the scenario that pointed to a “blue wave”, or landslide victory for the Democratic Party. But despite these fears, the S&P 500 index rose 42% in the 14 months after the 2020 election (between November 4, 2020 and January 3, 2021).

Going back to 1933, the markets have averaged returns of more than 10% in every year that a single party has controlled the White House and both houses of Congress.

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This return is somewhat lower than the average earnings recorded in the years in which there has been a divided Congress, a scenario that, in the opinion of many, could happen this year. Even in “less good” years, when the party opposed to the president controls Congress, the average return has been 7.4%.

What conclusion can investors draw?

The US legislative elections, and politics in general, generate a lot of confusion and uncertainty.
Although they cause an increase in volatility, there is no need to be afraid of them. The truth is that the long-term profitability of equities is generated by the individual value of the companies over time. Good investors must see beyond the short-term ups and downs and maintain a long-term focus.

In a year when rising inflation, the war in the Ukraine and falling markets have grabbed all the headlines, the US midterm elections risked going unnoticed. But now they are back in the spotlight. That’s right. Matt Miller, political economist at Capital Group, believes the 2022 midterm elections could be one of the biggest in US history.

“Let’s not fool ourselves: all the decisions that have been made this year in Washington have been carefully calculated with the legislative elections in mind”Miller points out.

Control of Congress could be at stake, but Do these elections affect the equity markets?

To prove it, we have analyzed more than 90 years of data, and we have discovered that the answer is yes, the markets have behaved differently in the years of legislative elections. Here are the five things to know about investing in this political cycle.

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