What this year’s US election means for stocks

It looks like Mitt Romney will be facing Barack Obama in the US presidential election in November. While the contest for the Republican presidential nomination is by no means over, with 46 states yet to hold primaries or caucuses, Romney's crushing victory in yesterday's Florida primary means that he is the clear frontrunner.

Of course, Newt Gingrich has been counted out before, while Rick Santorum and Ron Paul still remain in the race. There is also the outside possibility that another candidate could jump in. However, if Romney is indeed triumphant then we can expect a closely contested election.

So how will the election affect the economy and the market? What is the best way to profit from a new occupant in the White House?

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Does it really matter who wins?

It's important not to overestimate the effects of the election on either the economy or the market. Whoever wins, and whatever promises they make between now and November, the victor will be constrained by the economic situation and world events. They will also need to deal with long-term problems like entitlements and the national debt.

Tom Stevenson of Fidelity believes that the current stance, especially in terms of monetary policy, will remain unchanged irrespective of the outcome. He predicts that, "interest rates in the US have to stay low for the foreseeable future".

Perhaps the most significant difference between the two outcomes is the amount of power the president will be able to wield. The Republicans are likely to control both parts of Congress after the election, so they will continue to block Obama's legislation if he's re-elected. However, if a Republican inhabits the Oval Office, then it will be much easier for him to implement his agenda.

The stock market usually does better in an election year

The US stock market generally does better during presidential election years. Ned David Research, for example, has found that since 1900, US stocks performed much better in a presidential election year (with an average return of 7.5%) than they do in the next two (with returns of 5.5% and 3.7% respectively).

The Stock Trader's Almanac has also found that in the seven-month period leading up to the last 15 elections, the market has only fallen twice. Interestingly, other studies have found that the stock market tends to do better when Democrats, rather than Republicans, control the White House.

However, investors should be aware that there are exceptions to every rule, the most obvious being the financial crash of 2008, which ensured that those investing that year made a loss of 33.8%.

Although the differences between years and parties are statistically significant, the infrequency of elections means that these 'patterns' could be the result of data mining.

So which specific sectors would be affected most by the election results?

Energy companies will be rooting for a Republican victory

One of the key differences between Obama and all the Republican candidates is in their energy policies especially towards the oil and gas industries.

Obama has tended to prioritise environmental concerns when considering proposals to drill for oil and gas. For instance, after the Deepwater Horizon oil spill, his administration temporarily banned new offshore drilling. Recently he announced a delay in approving the Keystone XL pipeline, which would connect oil from the tar sands in Alberta, Canada to the US.

In contrast all Republicans agree that increasing domestic production is paramount. Romney supports increasing subsidies for oil firms, expanding drilling on the coast and Alaska and making it easier for energy firms to get approval for new wells. If Gingrich manages to make yet another comeback and goes on to beat Obama then he will go further, abolishing the Environmental Protection Agency and ending the ban on shale oil extraction in the American west.

As a result, Chesapeake Energy (NYSE:CHK) and Devon Energy (NYSE:DVN) are two US-focused firms that seem likely to do well under a Republican president, while solar energy companies Renesola (NYSE:SOL) and Sunpower Corp (Nasdaq:SPWR) will be hoping for Obama to be re-elected.

Obama's defeat would hit the construction industry

Aside from healthcare and financial reform, one of Obama's signature policies has been increased investment in transportation infrastructure, especially as a key part of the $750bn stimulus package. Although infrastructure spending has the support of both parties, Obama has consistently attempted to push expenditure levels beyond levels that Republicans have been prepared to accept.

So another Obama administration is likely to spend more money on roads, rail and airports than would be the case under administrations led by Romney or Gingrich. It is also more likely to take aggressive measures to boost housing. That suggests that infrastructure ETFs such as PowerShares Dynamic Building & Construction (NYSE:PKB) would do well if it looks as though he'll be re-elected.

Wall Street is in for a tough time

Unsurprisingly, one of the key issues in the forthcoming election will be the financial sector and its responsibility for the current economic crisis. While everyone understands that a healthy banking sector is important to speed economic recovery, legitimate critiques of regulatory failures, tax loopholes and the bail-outs are likely to be drowned out by populist 'banker-bashing'.

Romney's role at private equity firm Bain Capital, and Gingrich's ties to mortgage agency Freddie Mac, have both become major issues already - and Obama will certainly continue such attacks.

Obama has launched a new investigation into subprime-related fraud, and this may be only the start of the matter. More initiatives, investigations - and possibly even prosecutions - should be expected. Bank of America (NYSE:BAC) is particularly vulnerable.

And even if there aren't any substantive measures, the rhetoric on both sides is likely to make investors - and therefore markets - uncomfortable. It's another good reason to avoid the financial sector this year.