Election Year Politics and Stock Market Forecasts

Whatever your political views may be, you’ve likely come across some prediction of how the economy and financial markets will fare following either a Harris or Trump victory in November and then over their subsequent presidency. Before you make changes to your portfolio as a result of these predictions, consider the following three points:

Markets have already priced in the possible outcomes of the November election.
Two-step forecasting is difficult.
Your political beliefs can lead to investing mistakes.

Markets Have Already Priced in the Possible Outcomes of the November Election

Whatever the betting markets might indicate the odds are for a Trump or Harris victory today, tomorrow, or next week, what may wind up moving financial markets is if conditions change such that the odds of one candidate or the other becoming president significantly increase or decrease.

You don’t have to look very far into the past for an example of how this type of situation could play out. President Trump was a heavy underdog in 2016; betting markets gave him just a 20% chance of winning the day before the election. And yet, even after the surprise outcome, market moves were relatively muted the day after the election (the S&P 500 was up 1.1% that day). It should be noted that some forecasters were predicting a sharp decline if Trump won.

Two-Step Forecasting Is Difficult

Two-step forecasting is when someone says, “I forecast X, and as a result Y will happen.” Let’s say you’re 60% sure one candidate is going to win. Let’s also assume that you’re 60% sure that this candidate’s victory means stocks will decline in value. Then assume that if you’re wrong and the other candidate wins (a 40% chance in this case) then there’s another 30% possibility that stocks will decline for other reasons.

Keep in mind that going back to 1926, the S&P 500 has had negative returns in 27% of calendar years, so these assumptions are essentially saying that a victory by the first candidate is more than twice as likely to cause a stock market decline as has happened historically, while a victory by the other candidate means that the chances are roughly the same as history.

Using the previous assumptions, the math works out on this so that there is a 36% probability (60% x 60%) that you’re right about the first candidate winning and then also right about the market declining as a result, plus another 12% probability (40% x 30%) that you’re wrong about the first candidate winning but accidentally right about the market decline anyway. This totals out to a 48% chance of getting your two-step forecast correct, or essentially a coin-flip.

Of course, so far there has been no mention of how difficult it is to get the first prediction correct, much less getting both predictions right. Philip Tetlock, who teaches psychology, business and political science at the University of California, Berkeley, is the author of “Expert Political Judgment: How Good Is It? How Can We Know?” The book, which was published in 2006, discusses the findings of his 20-year study, the first scientific study on the ability of experts from various fields to predict the future. Tetlock found that so-called experts who make predictions their business are no better than random luck.

Your Political Views Can Lead to Investing Mistakes

There’s actually evidence that election results have the power to affect how investors handle their portfolios. The 2010 study “Political Climate, Optimism, and Investment Decisions” examined the link between investors’ political affiliations and their investment choices. Simply put, when your political party is in power, you feel much more confident about the economy and markets, and vice versa. This surge of confidence (or anxiety) might cause you to take more (or less) risk in your portfolio and deviate from your long-term plan.

Being aware of how your beliefs may influence your investment decisions can help you avoid making costly mistakes. Suppose you choose to get out of the market now. Do you get back in if your candidate wins? Or, if the other candidate wins, do you stay out of the market for four full years waiting for the 2028 election? Trying to time the market around the upcoming election is not likely to be a winning strategy. The reason is that you must be right not once, but twice. For market timing to work, you need to know when to get out and when to get back in. The bottom line is that you shouldn’t let the latest economic or political news cause you to abandon your well-developed plan.