Despite the differences in political philosophies, the one thing both Republicans and Democrats can agree on is economic prosperity. Everybody wants to gain more wealth. Therefore, for stock market investors, having political gridlock tends to be wonderful for returns.
No party can always get what it wants. And when one party does get what it wants, it is always a watered-down version due to the need for compromise.
Historically, stock market returns have been especially good when a Democrat is in the White House and Republicans control at least one chamber of Congress. With Joe Biden as President, this is likely exactly what we’re going to get.
Let’s check out the data and see what the historical average stock market returns are when there’s political gridlock.
Political Gridlock And Average Stock Market Returns
In scenarios where a Democrat is in the White House and Republicans control at least one chamber of Congress, the average return for the S&P 500 has been a whopping 33.9% during these periods since 1989!
I couldn’t believe the average stock market return myself until I studied the chart created by Jefferies, a boutique investment bank.
Here’s a fun random insight. Many of my old colleagues from bulge bracket firms would jump ship to Jefferies because they often paid huge two-year guarantees. This is something I should have done before leaving finance. Oh well.
Focus on the rows in blue below. The blue rows show when there’s a Democratic president and there’s Congressional gridlock.
Not only is the average stock market return 33.9% when there’s Congressional gridlock and a Democrat as president, but there has also never been a down year in the S&P 500 during this scenario since 1989!
Further, what a stark performance difference in returns when there is political gridlock when a Republican is president at -2.8% on average. That’s a 36.7% spread.
Finally, global equities is a huge underperformer when there is gridlock under both political gridlock scenarios.
When a Democrat is president during gridlock, global equities underperform U.S. equities by 17.4 percentage points (16.5% vs 33.9%). When a Republican is president during gridlock, global equities underperform U.S. equities by 10.1 percentage points (-12.9% vs. -2.8%).
Whether this is simply due to correlation and luck, it’s hard to say. It may be too arrogant to believe that because of political gridlock, America is too busy fighting domestic battles rather than building international alliances. At least under a Democratic president gridlock scenario, both global and U.S. equities have shown a positive returns.
Note: There are a couple small errors in the Jefferies chart. Trump had a Democrat House, not Senate. The Jan 20 1989 session had gridlock but is not shaded as being counted as a gridlock period with Republican President. If Jefferies took that 16% outperformance into the Republican gridlock average and out of the non-gridlock average it would lower the 33.9% average return. However, the average stock market return when there’s Congressional gridlock is still very high when a Democrat is in the White House.
Political Gridlock Should Make Investors Bullish
Whatever your party affiliation, political gridlock should make you want to buy more equities. It is unlikely that anything meaningful will get done to spook investors over the next four years. However, Democrats will try their hardest to take the Senate in 2022 and push their desired legislation over Biden’s or Harris’ last two years.
Some things bullish investors should keep an eye on are 401(k) contribution limits, 401(k) deduction limits, corporate tax rates, income tax rates, gift tax limits, Net Interest Income Tax, long-term capital gains tax rate, and estate tax exemption thresholds among others. Any big changes to these policies may have a negative effect on stock market returns.
Thankfully, we understand that all politicians crave power. Therefore, if the stock market is collapsing due to potential policy changes, our politicians will likely push through less onerous changes.
On the flip side, post-election results, there is still plenty of positive momentum for the stock market.
More Reasons To Be Bullish On Stocks
- Some investors have been selling or shorting in anticipation of a big blue wave that did not materialize. Therefore, higher capital gains tax rates and other higher tax rates are unlikely to happen.
- 3Q2020 earnings season is over and the overall numbers were better-than-expected. Companies won’t be reporting again until 2021.
- The Fed mentioned in its latest meeting that it will remain accommodative and use all its means to help keep the economy going. The Fed is not worried about inflation or overshooting inflation, which means the Fed Funds rate will likely stay at 0% – 0.25% for another year.
- At this point, any additional stimulus before year-end 2020 will feel like a big bonus since it’s been over three months since the previous stimulus package expired.
- The unemployment rate has trended back down to a no longer shocking 6.9%.
- After counting all the votes in all the highly contested states, Trump will likely concede by year-end due to Biden’s insurmountable lead.
- A bevy of positive vaccine news should come by year-end, giving a renewed hope for a sustained recovery in 2021+. Pay attention to news from Pfizer and Moderna in particular.
Positive Returns For 2021
Although we’re sitting near all-time highs in the S&P 500, I think the chances the S&P 500 will end both 2020 and 2021 above 3,500 are very high.
Specifically, I would assign a 75% probability long investors make money in the S&P 500 post election over the next 14 months. For now, I’ll also set a price target of 3,888 for an 10.8% return by end of 2021. 3,888 is based on 23.5X forward earnings. I’m much more conservative compared to investment banks such as Goldman Sachs (4,300 year-end 2021 target) and JP Morgan (4,500 year-end 2021 target).
Given my positive view, I will continue to max out my Solo 401(k) and SEP IRA and contribute the maximum gift tax amount to each of my children’s 529 plans. My net worth allocation to stocks will remain at my comfortable maximum of 25% as well.
On the real estate front, I believe there is going to be a rebound in big city living again. You’ve got the combination of a potential vaccine, lower coronavirus positivity rates, lower rents in some areas, booming tech companies, and more aligned political philosophies with the White House bringing capital and residents back.
Therefore, I will be buying more rental properties to take advantage of a rebound in rents and prices. I’m so excited for the opportunity to build more passive income!
Don’t Depend On Government
As financial independence seekers, we should never rely on the government to save us. Political gridlock helps ensure that we can continue to independently plan our financial future without many dramatic surprises.
Yes, having your man or woman in office does feel more reassuring that everything will be OK. However, please focus on what you can control. Don’t give in to the temptation to rely on the government for anything. Political promises are often broken.
We’ve got a lot of work to do to get ourselves out of this pandemic mess. However, I’m very hopeful that investors will come out wealthier once this pandemic is over. I keep imagining how wonderful things will be come November 2021.
Readers, are you amazed at the average stock market return during political gridlock like I am? How bullish or bearish are you for 2021?