Election season is upon us, and with that comes anticipation, speculation, and uncertainty.
When you add in the coronavirus pandemic, it is easy to see why our country’s emotions are running high.
In contrast, our team continues to manage client portfolios quantitatively, aiming to remove emotions in decisions.
We also continue to work with clients on using logic in their decision-making while accounting for their behavioral biases.
The Election Effect – What does the data say?
So…how do presidential elections affect the stock market?
Let’s start with an important point – the financial markets are cyclical.
Meaning, markets will rise and fall in a bull and bear market cycle.
Intermittently, catalysts can spark volatility within this investment cycle…
… and every four years the US presidential election is a key potential catalyst.
Given the market’s distaste of uncertainty, it follows that there has been more volatility over the last several months with a high-profile election around the corner.
However, historical data would suggest that perspective is important.
Below is a chart that shows how US markets’ have historically performed positively during election years (see Chart I below):
Chart I – Calendar year performance during presidential election years (Source: Blackrock)
However, these returns do not guarantee positive returns in election years, as there have been instances of declines.
Additionally, these returns don’t ever come in a straight line, but instead are typically accompanied by the uncertainty and volatility previously described.
Another interesting data point to consider is the S&P’s performance the year after the election (see chart II below):
Chart II – Average Election Year Return vs. Year Subsequent to Election (Source: Dimensional Fund Advisors)
The historical return profile for subsequent years has lagged election years by an average return of -1.4%.
However, this trend seems to have been reversed in the last three election cycles as each new president cranked up monetary stimulus.
As discussed earlier, these are net returns and don’t consider the market volatility in between.
So what does this mean for investors?
Financial markets are always going to be a major talking point during election years.
However, there doesn’t seem to be a statistical advantage to investment markets based on which party wins and their agenda.
All but four presidential terms have resulted in net positive returns for the S&P 500 (see Chart III below):
Chart III – Average S&P 500 Returns for Presidential Terms (Source: Dimensional Fund Advisors)
Perhaps the presidency has less impact than speculated on financial market results.
Perhaps other factors are more critical to deciphering near-term investment decisions.
Perhaps the financial media drums up investor emotions about specific candidates because it sells good copy instead of it mattering to your results.
At LGA, we continue to focus on the task at hand of logically investing portfolios.
We also continue to applaud our clients for focusing on their long-term savings and investment plans.
LGA Public Market Update
Suffice it to say, 2020 has been an interesting year for equity markets.
We saw a long-overdue 20%+ correction in US equity markets during Q1, with a subsequent rebound in Q3 (many weren’t expecting a V shape recovery).
Chart IV – YTD S&P 500 Returns (Source: Yahoo Finance)
It is important to note that a majority of these returns have been driven by a small number of positions.
To be specific, the FAANGM stocks (Facebook, Amazon, Apple, Netflix, Google, and Microsoft) have drastically outperformed the other 494 companies in the S&P 500 (see Chart V below):
Chart V – FAANGM performance vs. S&P 500 ex-FAANGM (Source: Yardeni Research)
This significant outperformance has concealed some serious market realities.
A vital market indicator to consider here is “Market Breadth.”
Wide market breadth (amongst others) usually indicates a healthy market.
This means that various companies across many different sectors are performing and contributing to overall market growth.
Conversely, narrow market breadth means that very few companies account for overall market growth while most companies are struggling.
We are currently in a situation with narrow market breadth as the FAANMG stocks now account for almost 25% of the S&P 500’s market cap (see Chart VI below):
Chart VI – FAANGM Market Cap Share of S&P 500 (Source: Yardeni Research)
These data points suggest that the overall health of the S&P 500 is worse than its performance suggests.
Combine the above with the fact that the FAANGM stocks could possibly be overvalued, and there are some serious reasons to be concerned with the overall health of our financial markets.
Outside of the US and S&P 500, international equities and various other asset classes have struggled throughout the pandemic (See Chart VII below):
Chart VII – YTD Asset Class Returns (Source: Yahoo Finance)
This chart further illustrates that despite the “rosy” performance of the S&P, many facets of our international and domestic economies are struggling.
Eventually, something has to give and markets have to show for the myriad of issues around the globe.
LGA High-Level Portfolio Moves
Our thesis on the public equity markets remains intact – diversification and capital preservation are important, while continuing to participate in the ongoing rally.
Tactical portfolios entered the Q1 downturn in a conservative posture, allowing us to increase equities exposure in the March/April time period.
Portfolios subsequently participated in the Q2-Q3 market rebound and recently, we have again positioned them more conservatively.
We completed two meaningful portfolio rebalances for index investors, with fixed income and equities diverging in Q1 and then conversely diverging again in Q2-Q3.
Currently, US equity valuations have risen back to concerning levels, and we are keeping a watchful eye.
One of the main ways we diversify client portfolios is through the use of several uncorrelated alternative investments.
These strategies continued to blunt public market volatility, while in many cases offering ongoing cash distributions.
We continue to believe that opportunities exist in infrastructure investing, litigation finance, life settlements, and select defensive real estate.
There were some declines in cyclical real estate, private equity, and mid-market lending, but we have seen several of these assets rebound with the rising markets in Q2-Q3.
We are actively keeping track of all private partners while continuing to source compelling new opportunities.
The information contained herein, including but not limited to research, market valuations, calculations, estimates, and other material obtained from LotusGroup and other sources, is believed to be reliable. However, LotusGroup does not warrant its accuracy or completeness. These materials are provided for informational purposes only and should not be used or construed as an offer to sell or a solicitation of an offer to buy any security. Past performance is not indicative of future results. This blog expresses the author’s views as of the date indicated, and such views are subject to change without notice. Investment advisory services are offered through LotusGroup Advisors, a federally registered investment adviser. LotusGroup transacts business only in those states where it is appropriately registered or is excluded or exempted from registration requirements. The information contained within is believed to be from reliable sources. However, its accurateness, completeness, and the opinions based thereon by the author are not guaranteed – no responsibility is assumed for omissions or errors. The views expressed herein reflect the author’s judgment now and are subject to change without notice and may or may not be updated. Nothing in this document should be construed as investment, tax, financial, accounting, or legal advice. Each prospective investor must make their own evaluation and investigation of any investments considered or of any investment strategies described herein (including the risks and merits thereof), should seek professional advice for their particular circumstances, and should inform themselves as to the tax or other consequences of any investments or services considered or described herein. LotusGroup’s advisory clients will be required to execute an Investment Advisory Agreement and related Account opening documents (collectively, “Agreements”). If any of the terms or descriptions in this presentation are inconsistent with Agreement terms, such Agreements shall control. Prospective investors should maintain the financial capability and willingness to accept the risks associated with any investments made, and should consult the relevant investment prospectus or legal documents, and should their Advisor Representative before making investment decisions (including but not limited to an examination of the investment objectives, risks, charges, and expenses of any investment product(s) considered). To better understand our advisory services and business practices’ nature and scope, readers are encouraged to review via the SEC’s website @ www.adviserinfo.sec.gov, the adviser’s Form ADV Disclosure(s), and the Form ADV 2B Brochure Supplement of each LotusGroup Investment Professional. Additional important disclosures can also be found at [www.lgadvisors.com}, by calling us at 720-593-9861, e-mailing us at [email protected] or by visiting us at our offices located at 1005 S. Gaylord, First Floor Denver, CO 80209. This blog, including the information contained herein, may not be copied, reproduced, republished, or posted in whole or in part, in any form without our prior written consent.
Benchmarks Notice* – References to any market or composite indexes, benchmarks, or other measures of relative market performance over a specified period are provided for information only. They do not imply that a portfolio will achieve similar returns, volatility, or other results. These references are provided to aid in understanding an index’s historic long-term performance, not to illustrate the performance of any particular security. The use of such data does not imply that such indexes are appropriate performance measures for a client’s portfolio, but rather are used solely to illustrate the risk and return characteristics of select market indexes during the period. An index’s performance does not reflect the deduction of transaction costs, management fees, or other costs which would reduce returns, and the composition of an index may not reflect the way a portfolio is constructed in relation to expected or achieved returns, portfolio guidelines, restrictions, sectors, correlations, concentrations, volatility or tracking error targets, all of which may change over time. Because of the differences between the client allocations and any indices shown, LGA cautions investors that no index is directly comparable to the performance demonstrated. Each index has its unique results and volatility, and such an index, if shown, should not be relied upon as an accurate comparison. An investor cannot invest directly in an index.
- Barclays Cap Bond Comp Index is a market capitalization-weighted index, meaning the index’s securities are weighted according to each bond type’s market size. Most U.S. traded investment grade bonds are represented.
- S&P 500 TR Index – The Standard & Poor’s 500, often abbreviated as the S&P 500, or just “the S&P,” is an American stock market index based on the market capitalizations of 500 large companies having common stock listed on the NYSE or NASDAQ. The S&P 500 TR Index includes the impact of investing dividends back into the index itself.
- EAFE acronym stands for Europe, Australasia, and the Far East.
- Additional Index information can be found via the “SEC Market Indices” below.
*Source: SEC Market Indices