Trump vs. Clinton: What the election means for investors(Read article summary)
The common perception is that business-friendly Republicans are better for the stock market, but the data show otherwise.
If you’re like most people, you can’t wait for this presidential election to be over. Then your Facebook feed will finally go back to photos of kids, puppies and food. Until then, you get mudslinging.
Every election year, we’re worn out by the bickering campaigns, the endless commercials and mailers and that crazy uncle who wants to turn every family event into a debate. But politics aside, many Americans are concerned about what the next president will mean to them and their family’s financial future.
The most immediate and visible concern is how the stock market will react. Investors want to know what to do with their money depending on who wins.
Presidents and the market
The common perception is that business-friendly Republicans are better for the stock market, but the data show otherwise. According to various sources, the stock market has delivered returns of 3 and 8.2 percentage points higher when a Democrat is in the White House.
There’s your answer, right? If Hillary Clinton wins, go all in. If Donald Trump pulls off the upset, run for the hills. In the words of college football analyst Lee Corso, “Not so fast, my friend.”
Research consistently shows that the stock market performs better under Democrats, but this is hardly a reason to start timing the market. GOP White Houses are still positive for the market. In fact, going back to Herbert Hoover in 1929, the stock market had gains in seven out of 10 Republican presidential terms. Plus, correlation doesn’t necessarily prove causation. Just because returns were better under Democrats doesn’t mean it was because they were Democrats.
What not to do
So what should you do with your investment portfolio when we find out who wins? “Don’t do something, just stand there,” as legendary investor John Bogle says.
Research has shown that investors who trade more frequently experience worse returns. Instead, focus on maintaining a long-term investment plan that includes proper diversification, the right amount of risk for your goals and time horizon, systematic rebalancing and smart tax strategies.
Of course, that’s easier said than done. According to a 2012 studyon investment decisions and the political climate, investors often “do something” after elections, and what they do depends on their political preferences. “Individuals become more optimistic and perceive the markets to be less risky and more undervalued when their own party is in power,” the study notes.
Buoyed by their party’s victory, investors added riskier assets, such as value and small-capitalization stocks, to their portfolios. The result was that investors who favored Democrats experienced better returns when a Democrat was in the White House, while Republican investors saw better returns with a Republican president.
These results shouldn’t be shocking, since taking on greater risk can lead to greater rewards. Data compiled by New York University shows that from 1928 to 2015 U.S. stocks, measured by the S&P 500, earned an average annual return of 9.5%. During the same period, virtually risk-free short-term government bonds earned 3.45%. The difference — 6.05% per year on average — is known as the risk premium, the additional return that investors earned for taking on more risk. However, once adjusted for the additional risk, their returns weren’t significantly better.
So investors did tend to do better when their party was in power, but they increased the level of risk in their portfolios to do so, potentially straying from their plans. The amount of risk you take on should be based on your goals and personal risk tolerance, not which political party you like better. Any shifts in your portfolio should be based on a sound long-term financial plan.
When the election is finally over, know that the performance of your portfolio depends less on who wins and more on how you respond to who wins. By focusing on the things that you can control — maintaining discipline and a long-term focus — you’ll be the winner this time.
This article first appeared in NerdWallet.