Midterm elections are right around the corner, as this week marked 5 weeks from the always important election. Although this year investors have been more worried about inflation, the war, the economy, and the stock market than the election, one thing that is playing out once again is that midterm years tend to be volatile.
As our first chart shows, the average midterm year since 1950 corrected 17.1% on average, the most out of the four-year presidential cycle. That’s the bad news. The good news is stocks gained 32.3% on average a year off those lows and have never been lower.
Here’s another look at the same thing, but breaking it down by each year:
Should we be surprised that stocks have had a tough go so far in 2022? Maybe not, as this next chart shows the worst time for stocks is a midterm year under a new president. With the S&P 500 up only 2.4% on average these years, it helps put the disappointing year so far into perspective. Now check out what happens the following year:
Here’s one more look at how stocks do based on the calendar. Below we’ve broken returns down by each quarter out of a four-year presidential cycle. Sure enough, the first three quarters of a midterm year are historically quite weak, actually some of the worst out of the entire cycle. Once again, though, we are on the cusp of some of the strongest quarters coming up, and investors need to take notice of the positive seasonality right around the corner.
What About the Election?
Historically the party that loses the election is the motivated party, and they tend to gain seats in the House and Senate. In fact, since World War I, the winning party lost nearly 30 seats on average at the first midterm election. Franklin D. Roosevelt during the Great Depression and George W. Bush (post 9/11) are the only two instances when the President’s party gained seats in the House.
What does it mean for investors? Well, Republicans need to win only five seats to regain control of the House, which is quite likely at this point. The Senate is more of a coin toss, but history shows that four seats have been added by the motivated party since World War II. With the Senate split 50/50 right now, this one is very close to call, but the Republicans could gain one seat and take full control of Congress. As the chart below shows, the very best scenario for stocks is a Democratic President and a Republican-controlled Congress. Should the Democrats retain control of the Senate, that scenario of a Democratic President and split Congress is quite strong for stocks as well.
Odds are investors will start to hear a lot more about the midterm elections over the coming weeks. You might hear that these sectors will do well if so-and-so wins, or that these sectors will do poorly if this happens. The truth is that no one really knows. After President Trump won in 2016, it was widely assumed coal and steel would do great; the opposite happened. Then under President Biden, green energy was to do great and dirty crude and coal would struggle. Again the opposite has happened. We aren’t saying you shouldn’t think like this, just that it isn’t so clear-cut.
What is clear-cut is stocks historically have done quite well the year after the midterms. As you can see in our last chart, the S&P 500 gained a year after the election every single time since World War II, with a very solid 14.1% average gain over that year. Why is this? Likely markets hate uncertainty and there is a lot of that leading up to a midterm election. But once the election is over, the uncertainty is likely lifted.
Midterm elections are very important for a lot of reasons, but the best part for investors is once the election is over, stocks tend to get a nice tailwind.
The three questions that will be answered on Tuesday, November 8, 2022, (or slightly thereafter) are:
What will be the balance of power in Congress after the 2022 election? Currently, it is a very close call between the Republicans taking control over both the House and Senate and the Republicans taking control of the House, and Democrats retaining control of the Senate.
Which party will control the Senate after the 2022 election? This one could become closer as we get to election day. Currently, the Democrats have a very slight advantage of at least maintaining their current 50-seat split with Republicans.
Which party will win the House in the 2022 election? This one is not even close. It is expected that Republicans will gain seats to take control of the House.
So, there you have it. It will be interesting to see how this changes as we get closer to the midterm elections. As always, we will continue to keep you updated.
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Matthew Gaude is an *investment advisor representative and the co-founder of Live Oak Wealth Management, a financial services firm in Roswell, Georgia. He serves the planning and investment needs of corporate employees, those approaching or in retirement, and 401(k) plan sponsors. Working first as a commodity broker and then as a Business Development Manager for a national broker-dealer in previous jobs, he has the insight and experience to help clients understand the complexities of the market and implement strategies to minimize risk. To learn more about Matthew, connect with him on LinkedIn or visit www.liveoakwm.com.
Shawn McGuire is a financial advisor and the co-founder of Live Oak Wealth Management, a financial services firm in Roswell, Georgia. He serves the planning and investment needs of corporate employees, those approaching or in retirement, and 401(k) plan sponsors. He has worked in financial services since 2002 in positions ranging from financial advisor to stock broker and portfolio manager. As a CERTIFIED FINANCIAL PLANNER™ professional, he is trained to help clients with virtually all their financial needs. To learn more about Shawn, connect with him on LinkedIn or visit www.liveoakwm.com.
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