Happy election day. This day is our right, that so many gave their lives for, to have the honor of selecting those that should lead us. May your candidate win, but more importantly, please take advantage of this wonderful opportunity that we have.
With that, I did a radio interview with MarketWatch radio yesterday. We touched on various subjects, but the most pressing was the election and what to expect should either candidate win.
Here’s a summarized transcript of our conversation.
Q: The Monday before an election is normally rather bullish, why is that?
A: We didn’t see any specific reason. The reality is people are by nature optimistic, and looking forward to new leadership or changes could be the reason behind the strength. In fact, three of every four times since 1900 the Monday before an election has been higher.
One other study we did recently that looks at the election is what it means when the Dow makes a new calendar year high during the normally troublesome month of September. The thinking is if the market is doing well, that is probably good news for the incumbent. Remember, this happened this election year and is rather rare. Turns out, it’s a good sign for Obama. Going back to 1900, there have been five other times the Dow made a new calendar year high in September during an election year and the incumbent won four out of five times.
Q: The day after the election, the Dow is usually down. What do you think of that?
A: That’s correct. Some of it could be Monday is normally strong, Tuesday you get volatility, then Wednesday you have some selling take place after the event. We’ve been talking a lot about how the market probably knows what it will get with Obama, versus Romney is more uncertain. For instance, what if he decides to put the brakes on the Fed and all the QE? That could bring with it a lot of uncertainty.
None the less, we broke it down a little further regarding the day after the election and it turns out if a Democrat wins, it is usually a sell-off the next day to the tune of down nearly a full percent, versus if a Republican wins that next day is up 0.64% on average.
Q: Longer-term though, does it matter if a Democrat or Republican are in office?
A: Great question and that’s something we are all trying to decide, but the reality is the market does much better with a Democrat in power. Now, historically this could be skewed because we’ve seen some crashes with a Republican in office – none the less, whether you like it or not, the market does do much better with a Democrat in office.
But there are still other things that matter more. Things like fundamentals and overall sentiment are still the most important factors to the overall market’s direction.
Q: What about Congress and other areas of politics? Are those the most important factors for Wall Street?
A: We think so. And as soon as we figure all of that out we’ll start to focus on Fiscal Cliff. So we go from one worry to the next. But let’s throw politics out for a while here. Earnings season has been a wash. Yes, it’s been weak, but everyone expected that. The flip side is most of the economic data has been pretty good the past four weeks. Just look at last week’s jobs number. All in all, it was pretty good.
It’s an interesting dichotomy where earnings look bad, yet the economy is improving. Then of course, with the election coming up everyone is scratching their head trying to figure out what might happen next. It looked like Obama was going to win, then one good debate from Romney and now things are much closer. In fact, it’s a coin flip in a lot of polls. If there’s one thing Wall Street hates it is uncertainly and hopefully after the election some of that uncertainty will be removed. Sure the issues on the economy and Europe remain big issues. Especially with Spain dropping and Greece in trouble yet again. Still, hopefully getting the election out of the way will help alleviate some of that uncertainty that is out there.
Q: You think the market will be able to hold onto the gains its had so far this year?
A: Yes, we do. We look at the market based on sentiment and expectations, and there is a lot of negativity still out there. We like to see low expectations. Looking at the option activity, we think hedge fund have been drastically underexposed to this market and nearly all of them missed the summer rally. (The chart below shows a low put/call ratio, which we think suggests hedge fund and institutions have very low overall equity exposure here)
For this reason, we don’t expect any big sell-offs and instead pullbacks will be used as buying opportunities. It’s interesting because, yes, the economy isn’t doing great, but this doesn’t mean you can’t have a stock market that rallies. We’ve seen this before and fully expect a strong year-end rally, even if the economy lags. We would still be buyers for a year-end rally here.
Be sure to leave your comments below and let me know what you think.