With high inflation, a slowing economy, and geopolitical tensions top of mind, many may be wondering what positive catalyst could potentially put an end to the historic market declines that have occurred so far this year.
The midterm elections coming up on November 8th may be the positive catalyst needed to stabilize markets.
Historically, the 12 month period immediately following midterm elections has been one of the strongest time periods for S&P 500 index performance.
As the image below shows, in the 12 month period following midterm elections since 1950:
The S&P 500 has been positive 18 out of 18 times, or 100% of the time
The average S&P 500 return has been 18.6%
The average S&P 500 return has been 10.6% for all years between 1950 - 2018
S&P 500 returns have been about 8% higher in the 12-months following midterms than the average year
The two-year period following midterms is also very historically strong.
As the image below shows, in the two-year period following midterm elections since 1950, the S&P 500 has averaged a total return of about 33%, or 16% per year.
This is also far above the long-term average return of about 10% per year for the S&P 500 index.
Have any of the 12-month periods following mid-term elections included a recession?
Two of the 18 periods above following midterm elections included recessions (1974 and 1990).
The S&P 500 index was still positive during these two periods in spite of recession.
In the 12 months following the 1974 midterms, the S&P 500 Index gained +24% in spite of the recession taking place at the time.
In the 12 months following the 1990 midterms, the S&P 500 Index gained +29% in spite of recession.
Why has the S&P 500 performed so well following midterm elections in the past?
There's no way to prove with certainty why this has occurred.
It's possible it's purely due to chance. Here are some theories of cause and effect...
Midterm elections have historically lead to a more divided government with the sitting President's party losing seats in congress.
One theory for S&P 500 outperformance is that divided government leads to more centrist policy, and centrist policy creates more certainty which market's prefer.
Another theory is that the S&P 500 has historically performed poorly during midterm election years in the time period leading up to midterms (returns are about flat, well below long-term averages) in part due to the uncertainty that midterm elections create. Once midterm elections occur and the uncertainty is lifted, markets have bounced regardless of outcome.
Could it be different this time?
Yes. Past performance doesn't guarantee future performance.
It's possible that inflation, an economic slowdown, and geopolitical turmoil could overwhelm the historically positive catalyst of midterm elections.
However, with market sentiment currently at historic levels of negativity, year-to-date performance already among the worst years ever for the S&P 500, and year-to-date performance by far the worst ever for bonds, it's possible that midterm elections provide the positive catalyst needed to stabilize markets just as they've done many times before.
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