Does the US election cycle herald a stock market boom?

Equity investors could profit from keeping an eye on the presidential cycle, says John Ficenec in The Daily Telegraph. The basic idea is that administrations stimulate the economy in the third year of a term so that, by the time the next election comes up, the feel-good factor is spreading. In the first two years of a government, the previous stimulus is reined in.

So while the first two years of a presidential term are typically lacklustre for equities, the third is fantastic. Since 1932 the third year has returned an average of 26%. The average performance in year four was 6.9%. Averaging out year one and year two produces a marginally negative return.

Put another way, an investor who started with £1,000 in 1952 and was only in the market during the first half of a term ended up with £1,000 60 years later, notes Ficenec. Someone who only focused on the latter half, and kept reinvesting his gains, would have seen £1,000 turn into £70,000 in 60 years.

Just how useful is this pattern? Unlike some supposed stock-market patterns, such as the January effect, which we discussed last week, it at least makes intuitive sense. Still, it’s only based on 18 cycles, which is hardly enough to prove an absolute link.

The pattern failed in 2004-2008 and appears to have weakened in the past two decades, when the Federal Reserve’s endless stimulus kept stocks rising most of the time.

For instance, the past year, the first of a cycle, has been unexpectedly strong. The first two years of the 1984, 1996 and 2004 cycles were very positive, as GMO’s Jeremy Grantham points out – though those cycles ended in the crashes of 1987, 2000 and 2008.

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