Elections Are Fertile Ground for Testing Market Soothsayers

In 1967, after several years of research, a young market forecaster named Yale Hirsch unveiled a grand theory of the relationship between presidential elections and the stock market.

Tracking data back to 1833, Mr. Hirsch found that on average, stocks performed better in the final two years of a presidential term, a trend he attributed to maneuvering by the party in power to better its chances of re-election.

“As presidents and their parties get anxious about holding on to power, they begin to prime the pump in the third year, fostering bull markets, prosperity and peace,” reads a recent edition of the “Stock Trader’s Almanac,” the venerable perennial founded by Mr. Hirsch that collects financial tidbits, gentle market humor and reams of historical data.


But as with its older cousin in the almanac business, Poor Richard’s, the pattern described in the book has not always panned out. With the Dow Jones industrial average down 30 percent this year, it would seem 2008 is going to be such a year.

A decline so startling might suggest that predicting the market by watching American election patterns is not a practice to, er, put a lot of stock in. Mr. Hirsch’s theory, however, was only an early entry in a long tradition of market watchers seeking connections between two of America’s favorite pastimes: picking presidents and picking stocks.

Many analysts, looking for a jump on Tuesday’s results, have pointed out that declines in the stock market right before a presidential election generally point to an advantage for the challenging party.

Investors looking to make a quick buck this week can dig up research showing that stocks tend to do better the day after a Republican presidential victory than a Democratic one. And bullish types expecting a Barack Obama victory have noted that over time, stocks perform better under Democratic administrations.

Or, perhaps, there is no connection at all.

Without doubt, declines in the stock market can be indicative of broader problems in the economy, and the performance of the economy influences how people vote. But to forecast the market based on a political event is to enter the murky realm of distinguishing chance correlations from true cause and effect.

“To me, things like the weather, the Super Bowl and presidential elections are basically coincidental,” said Laszlo Birinyi Jr., an investment adviser and head of Birinyi Associates in Westport, Conn.

“I would never consider it in terms of investment decision-making,” he said. “You will find people who will wax rhapsodically on it, but quite frankly to me, it’s an exercise in futility.”

With stocks facing their worst declines in decades, this year may be particularly difficult to predict. Some investors say the problems in the economy are so far-reaching that the winner of the election could, in the short-term at least, hardly matter at all.

“The amount of attention being paid to the election is less than it would be under more normal circumstances,” said Russ Koesterich, a strategist at BarclaysGlobal Investors. “Right now, people are still focused on gaining clarity about the solvency of the financial sector.”

Sharp differences divide the candidates on matters like tax policy and government regulation, and their proposals could eventually be enacted into law. But Mr. Birinyi noted that campaign speeches are far removed from the hurdles and compromises of Capitol Hill.

“The process of legislative government is so long and drawn out,” he said. “To isolate the issue and the impact is, to me, to try to find the function of a bay leaf in a recipe of coq au vin.”

Indeed, some investors expect the market to stay focused on the problems in the economy, including the credit freeze and rising corporate layoffs. “The market realizes that whoever comes into the administration, it’s not going to have much of an impact on growth over the next couple of quarters,” Mr. Koesterich said.

Despite the cautions of such sober analysts as Mr. Koesterich, it is difficult for people to resist looking for patterns that supposedly predict the future.

Jeremy J. Siegel, a professor at the Wharton School, studied presidential election cycles for his 1994 book, “Stocks for the Long Run,” and found that when a Republican wins a presidential election, stocks tend to perform better the day after.

Professor Siegel attributed that to the relatively conservative leanings of the investor class. “The first flush is, ‘The Republicans won; I’m happy,’ ” he said. “But once it plays out, the Democrats in the long run have had historically better returns.”

Mr. Siegel studied stock returns from 1888 to 2004. From Monday to Wednesday of presidential election weeks, stocks moved higher by an average of 0.7 percent in the event of a Republican victory. Stocks fell 0.5 percent on average when the Democrats took the White House.

The study, which used the Standard & Poor’s index as a gauge, comes with caveats. In the postwar election years, from 1948 to 2004, the average return on a Republican win was zero, while stocks dropped 0.2 percent on Democratic victories. Stocks also tended to do better when the branches of government were divided between the parties, with the best performance under a Democratic president and Republican Congress.

But on a longer time scale, much of a president’s legacy — at least that part of his legacy measured by the Dow Jones industrial average — has really been determined by “whether markets are high or low when you came into office, not what sorts of policies you bring in to spark it up,” Professor Siegel said.

And what of Mr. Hirsch’s theory of presidential elections? Mr. Hirsch declined to be interviewed. But his son Jeffrey who has taken the reins of the business, defended the theory.

“The advantage of the cycle is it works most of the time, and it provides you an overarching theme as to when most of the markets’ gains and losses are made,” the younger Mr. Hirsch said.

“Nothing’s 100 percent perfect,” he added. “It’s not something used in a vacuum. It’s not that you look at the stars and the calendar, and only follow that.”

And his thoughts for 2009? “Next year might not be as bad. Or, conversely, there’s something horrible going on, something negative in this global crisis, which could mean next year will be even more difficult.”