Midterms & Markets: 4 Things You Should Know

by Riley Financial Strategies Group

With elections right around the corner, many clients have been asking us what the results could mean for the markets. Riley Financial Strategies Group has four things you should know about the relationship between midterms and the markets.

The stock market usually dips before a midterm election.

2022 has been a rough year for the stock market. Historically, markets have fared the worst during midterm-election years. In fact, according to one study, the S&P 500 averages a 19% decline in the months before a midterm!1 One of the single biggest reasons for the volatility this year is stress over inflation and the Federal Reserve’s response to it.

But midterm elections often tend to drag the markets down on their own. The reason can be summed up in a single word: Uncertainty. The months leading up to a midterm come with a lot of questions. Pundits can make predictions, but no one knows what the future will bring. The markets are allergic to uncertainty. It’s the driving force behind many a market pullback. And with so much uncertainty before a midterm election, it’s not surprising the markets are struggling.

After the fall comes the bounce.

Now for some good news: the S&P 500 usually climbs an average of 32% in the twelve months after a midterm election.2 That makes sense – elections resolve a lot of the aforementioned uncertainty, which often pushes markets back up! But there is an important caveat here: Past performance doesn’t guarantee future results. This little bit of market wisdom is always true – and it’s especially worth remembering now. Most years after a midterm, investors don’t have to worry about the threat of a recession.

For months, the Fed has been trying to bring down inflation without bringing down the economy. To do this, they have attempted to raise interest rates gradually and incrementally. Unfortunately, the effects have been minimal thus far. That means more rate hikes are likely in the future, which brings an increased risk of recession in 2023. History shows that the markets sometimes don’t do well after a midterm whenever there is slow economic growth mixed with high inflation and rising energy costs, like in the late 60s and 70s. We’re in similar conditions now.

However, a recession – real or imagined - doesn’t necessarily mean 2023 will be a bad year for stocks. The markets move more on the expectation of future events than the events happening right now. It’s quite possible that, as 2022 winds down, the markets will have already priced in the threat of a recession. Investors may be more likely to act on the anticipation of future good news instead of overreacting to expected bad news. Whatever the markets do after the midterms, though, there’s one thing you can rest easy about: It won’t matter which party “wins” in November.

Historically, the markets don’t care which party is in control of Washington.

No matter what your political party, the fact is that the markets aren’t as partisan as people. History shows that, while some years rise higher than others, the markets tend to rise after an election no matter which party is in power.

The reason for this is simple. While politics certainly play a role, the markets are affected by many things – and Washington is not at the top of the list. Corporate earnings. Supply and demand. Interest rates. Inflation. Housing prices. Employment. And while it’s true that the government has an influence on many of those things, the government does not dictate the daily rhythm of the markets. Politics are to the markets the same as brushing our teeth is to our overall health. Very important, but not always the difference between life or death.

Like we said, the S&P 500 usually rises after an election regardless of which party is in the White House or controls Congress. Whether or not that is a united government is another story. As of this writing, polls suggest that Republicans are favored to take back the House3, while Democrats will keep the Senate.4 If this happens, the result will be Congressional gridlock. Gridlock is rarely fun for us citizens, but the markets tend to take it in stride. That’s because gridlock usually means maintaining the status quo in terms of economic policy – and the status quo is something investors know how to handle.

Even if one party wins both chambers of Congress, though, you can make an argument for why it could be a boon for the markets. Republican control might mean any new taxes or regulations would be unlikely, while Democrat control could mean a stronger chance of fiscal stimulus – which investors like. The point is that history shows the markets are as politically unbiased as you can get in this country. Which brings us to the fourth and final thing you should know about the upcoming midterms.
Riley Financial Strategies Group never makes politically-charged investment decisions.

No matter your affiliation, you should never make financial decisions based on politics. This is especially true when it comes to your investments. Choosing whether to buy or sell based on who you think will win an election is the opposite of having an investment strategy. It’s investment speculation.

Our passion for politics can severely color our thinking. How many people missed one of the longest bull markets ever because they disliked President Obama? How many people missed the “Trump Bump” because they disliked President Trump?

Midterms – before and after - do impact the markets somewhat. But that doesn’t mean we should change or abandon our strategy. Make no mistake: This is an important time of year. It’s a time when we, the people, get to decide the direction of our country, state, and local communities. But it’s not the time for changing the direction you take toward your financial goals.

Riley Financial Strategies hopes you’re able to vote next month. In the meantime, if you have any questions or concerns about Washington, the markets, or your portfolio, please call 412.856.4556 or e-mail us. If there’s one thing we can guarantee, it’s that we’re easier to get in touch with than your local politician!

Visit us online at www.rileyfsg.com.

1 “Why Wall Street shouldn’t sweat the midterms,” CNN Business, October 6, 2022. https://www.cnn.com/2022/10/06/investing/stocks-midterm-elections/index.html 
2 “Midterm Elections: The Politics of the Stock Market,” Forbes, October 2, 2022. https://www.forbes.com/sites/bill_stone/2022/10/02/midterm-elections-the-politics-of-the-stock-market/?sh=35dcd0171cc7 
3 “Republicans are slightly favored to win the House,” FiveThirtyEight, accessed October 6, 2022. https://projects.fivethirtyeight.com/2022-election-forecast/house 
4 “Democrats are slightly favored to win the Senate,” FiveThirtyEight, accessed October 6, 2022. https://projects.fivethirtyeight.com/2022-election-forecast/senate