Perhaps more surprising, since 1928 stocks have risen an average of 11.6% in presidential election years versus an overall average of 10.3%, while a balanced portfolio of stocks and bonds has a similar history. Going back to 1860, a conventional 60/40 portfolio (60% allocated to stocks and 40% to bonds) returned an average of 8.7% in election years, and only averaged 7.7% in all other years.¹ While it may be counterintuitive, both stocks and a diversified portfolio of stocks and bonds have generated better-than-average returns when the holder of the nation’s highest office is being decided.

However, the volatility of stocks does typically increase a few months prior to election day in November, only to subside in the subsequent months. This is intuitive insofar as elections do create uncertainty—which creates volatility—but in the long run it is the outlook for the economy, not politics, that matters more for expected future returns.

An already cautious Fed will tiptoe into Nov. 5

The 2024 election is relatively unique in that it is occurring during a pivot from one monetary policy cycle (tightening) to another (easing). You have to go back at least 50 years to find an election year where the U.S. Federal Reserve (Fed) was both active and not just continuing an already established cycle. The table below shows the changes in the Fed’s targeted interest rate and how many days before the election it adjusted rates. The rarity of cuts or hikes beyond 100 days is apparent and largely concentrated in the last century—except in 2008, when the election took place during the GFC. The rate cuts close to the election then were a continuation of an existing easing cycle, and a much-needed response to a crisis situation.

Insofar as the Fed is understandably reluctant to appear political, the timing of this election makes its planning a bit trickier. The markets have anticipated rate cuts (to support the economy) since late last year, and the debate largely has focused not on whether the Fed will cut rates in 2024, but when. In our view, the path of inflation will determine the pace and magnitude of rate changes this year and the markets will understand this. That said, we expect the Fed to be more reluctant to change interest rates between Labor Day and the election in an effort to ensure its economic decisions are not seen through a political lens. The Fed, however, likely would not hesitate to respond to a serious economic crisis should one develop before the election.

The common ground in Donald Trump and Joe Biden's economic policies

While the political battlefield has grown steadily louder and more polarized in recent years, the two major parties still broadly agree it’s good for their constituents for the economy to grow, employment to rise and inflation to be stable. In an increasingly divided country, this may seem a quaint point, but the point remains and is important.

In the simplest of terms, Joe Biden remaining president and Congress remaining divided should not greatly impact broad market indices because such an outcome is essentially a continuation of current policies that the market has discounted already. Similarly, a Donald Trump presidency could evoke some optimism about possible lower taxes and decreased regulation, but many of his policy goals have to get through Congress. In the scenario Congress remains divided, his policy goals may be tempered.

While Biden and Trump differ on many issues, there are some commonalities in policies that concern the market. For example, neither expresses much concern about the U.S. government’s budget deficit. Despite government spending being at extraordinary levels, neither candidate has vowed to restrain spending and curtail the deficit. While high deficits can impact inflation and interest rates, the market already expects this scenario.

Biden and Trump also share some common ground on trade and immigration. Both candidates have advocated for protectionist trade policies in an effort to support the American worker and industries. While tariffs and other limits on trade can aid domestic companies, they also can boost inflation, which the Fed is working to defeat.

Immigration is another (sometimes contentious) issue with meaningful economic impacts, and therefore can impact markets. The surge in immigration has provided a kind of supply-shock to the economy, alleviating shortages of workers that occurred during the pandemic as people dropped out of the labor force. Immigration worked to reduce inflationary wage pressures and sustain job growth. As such, a reversal could also be seen as inflationary. At the same time, there is a shortage of housing, so a growing population—while good for economic activity—can add to housing and rent price pressures.

While there is little debate that the two parties have different views on policy that could affect individual sectors, history is not much of a guide in this instance. Since 1988, the returns of the 10 sectors² of the S&P 500 Index during election years are fairly random. For example, as can be seen in the chart below, the consumer discretionary sector has outperformed the overall market more often than not during election years, but four of those occurred when a Democrat won, and two when a Republican won. Conversely, health care has tended to lag in election years, but in the years it underperformed, three were during a Democratic win and three during a Republican win. Not, as they say, statistically significant results.

However, the figures above may be blurred by the nuance over whether the winning president also won control of one or both houses of Congress. The result of one party controlling the executive branch and another controlling the legislative branch, or any split in the control of Congress and division in power limits the ability to set policy. A president can, however, impact the economy and industries through executive action and influencing the level regulatory enforcement.

Perhaps the apparent randomness in sector performance over time can be chalked up to our working assumption: That without a determined president whose party controls both houses of Congress, policy changes often are incremental, and thus underlying economic trends drive the markets.

In the event that a sweep of the executive and legislative branches occurs for Donald Trump, we would expect to see lower taxes, reduced regulation, increased trade tension and a more isolationist foreign policy. Should the reverse happen and the Democratic party retains the presidency and the Senate while retaking the House of Representatives, current policies could extend to higher taxes on both corporations and the wealthy and create additional spending on social programs. In both of these scenarios, the budget deficit is likely to remain a secondary priority, unless or until markets start driving up interest rates in response to higher debt levels.

The wild card

We expect financial markets will remain focused on the outlook for the economy, inflation and the Fed along with any expected policy changes the election brings. However, we cannot discuss the upcoming election without acknowledging this election is unprecedented in many ways, and what is referred to as tail risk—the low probability that something extreme happens—is higher than usual. A part of the country doubts the integrity of our electoral system and the political environment is heated.

Election results have been contested before (notably in 2000 and 2020), and markets had a largely tepid reaction to each. We are keeping an eye on a small but potentially meaningful chance that 2024 could see a more pronounced reaction to the results. Consumer confidence is softening, and small-business confidence is near multi-decade lows and Americans still are apprehensive about the U.S. political environment. A contested election could push confidence lower, which could dampen economic activity.

Stay invested and stay tuned

In the short term, market volatility may pick up as we get closer to the election. While much of that will be more noise than information, we do expect to gain a better sense of each administration’s policies, who will be in the cabinet and maybe have a clearer idea of whether a Republican or Democratic sweep of Congress may happen.

History shows us that markets generally rise in election years and, in the long run, are more driven by economic fundamentals than party policies. Furthermore, it is still early to gage the victory chances for either presidential candidate, or which party will control which houses of Congress. While we believe there is more tail risk in the current election, we remain of the view that maintaining a diversified portfolio and staying invested in the market over the long term are the primary drivers of investment returns. It’s time in the market that has mattered the most and not which party controls the White House.