Presidential Election Cycle

Jesse wrote: “I found an interesting article on the effects of presidential elections on stock prices.”

From the article Jesse cited:

In The Stock Trader’s Almanac, 2004, Yale Hirsch notes that based on his studies, “Presidential elections every four years have a profound impact on the economy and the stock market. Wars, recessions and bear markets tend to start or occur in the first half of the term, and bull markets in the latter half.”

The Stock Trader’s Almanac is a very rudimentary tool, useful for big picture prognosticating and interesting historical tidbits, but nearly useless when it comes to actually making investment decisions.

Recently, for instance, the Almanac was out of the market for the powerful rally that began in summer 2006, and has missed out on the current rally that began more than a month ago, plus all of the heady gains back in May. Why? Because it uses a mechanical seasonal timing method called the “Best Six Months” with MACD analysis to try determining when to get in and out of the market in October or November and April or May. Some people swear by it; I swear at it.

So it comes as little surprise to me that Yale Hirsch concludes in typical wide-cut Almanac fashion that rallies tend to occur in the latter half of a president’s term. How would you have felt back in Bill Clinton’s second term in 1997 and 1998 when the market was supposed to do poorly but the Nasdaq gained 71%, or in 1999 and 2000 when the market was supposed to do well but the Nasdaq saw its peak and first half of the crash.

“Yes,” they say, “but look how the cycle did with President Bush’s first term.”

Fine. The Nasdaq lost 46% during the first two years of President Bush’s first term. However, that was the follow-on to the bear market that began in the last two years of President Clinton’s second term. Moreover, the supposedly rough first two years of President Bush’s second term were good. The predictor failed there.

Looking over the spottiness, you can see why I’m loath to call the presidential election cycle much of an actionable trend. Yes, there’s something to it. It’s worth factoring in, and I admit that this being the third year of President Bush’s second term helped make my bullish call on this year back in January. However, by itself, it’s not much to build a strategy around.

What there is worth building on is not best presented by the Almanac. For a more illuminating look at the facts in a concise article, stop by CXO Advisory Group. It concludes:

There appears to be some connection between the presidential term cycle and stock market performance, with Year 3 the best and Year 1 the worst.

CXO improved on the Almanac by narrowing down the best part of a presidency to a single year and the worst part to another single year. That’s a helpful leap over the Almanac’s sloppy half-and-half ballpark assessment.

Probably the best comment on all of this is from the article Jesse cited. It concludes:

Even where patterns exist, there is enough variability that it is risky to try to anticipate specific turns in the market.

That, ladies and gentlemen, is why I’m still in business.

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