I wrote this open letter to my HNWI clients following the recent midterm elections… ‘Market Volatility After the Midterm Elections by Andrew Kyriacou’:
The potential outcomes of the midterm elections have been dominating the news lately. As October reminded us, investors and the markets typically do not like uncertainty. With Democrats taking control of the House of Representatives, and Republicans maintaining their majority in the Senate, this clarity may bring some reassurance for investors.
Throughout 2018, we have been expecting a return to more normal levels of market volatility (after experiencing very little in late 2016 and 2017), driven by forces such as potential economic growth, inflation concerns, rising interest rates, trade tensions, and political uncertainty. In fact, the S&P 500 Index has slipped into “correction territory,” defined as a 10% decline from a recent high, on three separate occasions this year. While potential tariffs and Federal Reserve policy may have garnered most of the headlines, the underlying uncertainty around the U.S. midterm elections has probably also been pressuring markets.
Midterm Election Years
Historically, midterm election years are the most volatile of the four-year presidential cycle. Equity markets are typically unable to sustain any lasting momentum because investors are awaiting the outcome and considering how it may influence policy, the economy, and in turn, the markets. Occasionally, market participants conclude that the potential for political “gridlock”—a divided Congress—is a favorable outcome, as that suggests any extreme political or economic measures are unlikely. Since 1950 the U.S. stock market has consistently displayed a sort of “relief rally” after the midterm elections; so if history repeats itself, we may see strong performance through the rest of 2018 and into the first half of 2019.
Democrats in control of the House
Although clarity may be all that the stock market is looking for, there are several important policy implications for investors to consider in light of this year’s results. With Democrats taking control of the House, “gridlock” may in fact mean a better sense of political balance for many market participants, as it limits the potential for the policy pendulum to swing too far in any one direction. We may also see an infrastructure spending deal and progress on trade, which could provide further support for the markets. On the other hand, the debt ceiling debate may create renewed uncertainty if Democrats attempt to roll back some of the recent tax cuts in order to reach a deal on the federal budget, and increased scrutiny of the administration may periodically weigh on market sentiment.
Looking ahead, a traditional post-midterm election rally may follow as investors attempt to identify asset classes, sectors, and industries positioned to benefit from the election results. Although considering the deep domestic political divide, as well as the ever-present global challenges, it is prudent to prepare for further bouts of market volatility in the year ahead. It is also important to stay focused on those factors that traditionally drive markets in the long run: not political headlines, but rather the solid fundamentals supporting economic growth, the direction of interest rates, and the impact of corporate profits on the financial markets.
As always, if you have any questions or concerns please contact me and the Andersen Tax Wealth Management team.
Read my latest Market Update white paper at: https://andrewkyriacou.tips/wp-content/uploads/2018/11/Andrew-Kyriacou-Market-Report-Nov.1-.pdf