A new president has been sworn in to office, the country is still reeling from the impact of the coronavirus pandemic, and there has been much social upheaval. Naturally this can scared investors who may be wondering, what’s next and how is the stock market going react? Do I need to go to cash?
Let’s take a step back and address the differentiation between politics and business. The elected president is not a factor of which companies are good performers. Corporations are run by their CEO with advice and directive of the board of directors. When an investor buys stock in a company they buy ownership and shareholders rights. This allows shareholders to vote for who sits on the company board. Yes, taxation and political issues can cause upheaval for a corporation, but the U.S. President does not dictate how a company is run. A good company is still a good company regardless of who is elected President. Consider this quote from Forbes senior contributor, Kristen McKenna, “Indulging political fears or expectations by making major changes to your investments can be particularly damaging” (McKenna, 2020).
Is Holding Cash the Solution?
When investors get nervous they may turn a blind eye to their long term plans. They may look to what they consider a safe haven, cash. But is this really a safe strategy? If you maintain too much cash you face opportunity cost loss. “You don’t want to look back 10 years from now and realize that, had you simply invested that extra cash, you would have a lot better return” (Boelter, 2018). Time erodes the purchasing power of cash as you can not keep pace with inflations when holding too much cash.
Let’s take a look to a historical perspective to analyze how the market may look in an election year. The stock market like the economic or business cycle follows a cyclical pattern of expansion, peak, contraction, and trough. The average economic cycle lasts about five and a half years (Chappelow, 2020). During election years the market follows a similar cyclical pattern referred to as “Presidential Election Cycle Theory” (Anspach, 2020). The five and a half year economic cycle and the four year election period don’t totally move lock step as some elections introduce a new president and others see a the current president re-elected, but it allows us to see patterns. “On average, the best year for the stock market is the third year of the four-year presidential cycle. The period leading up to the election itself tends to be below average for equities” (Hulbert, 2019). Why? Because, investors in the stock market are not fans of ambiguity or the unknown. Of course, it’s important to recognize, past performance is not a guarantee of future performance.
Age and Stage
With volatility, economic cycles, and elections, how will we know the directions the market will take? We don’t. This is why it is important to put emotion aside and take a realistic look at factors under our control. Age and career stage will help determine how aggressive or how conservative a person can afford to be with their investments. If you are young, you have time to recover from the negative impact of a market down turn. Conversely, an older person or one who is preparing to or already has retired, may not have time to recover sufficiently. On the website of the U.S. Securities and Exchange Commission (SEC), investors are reminded, “risk and reward go hand in hand” and “all investments involve some degree of risk”, but “it’s important that you understand that you could lose some or all of the money you invest” (investor.gov). Some investors have a higher risk tolerance than others which is evidenced in their gut reaction to investing. Conservative investors may be more concerned with the concept of loss verses the necessity of gain in order to keep up with inflation.
From Risk Tolerance to Asset Allocation
Along with time horizon and risk tolerance, another factor to consider when investing is the actual asset allocation. Asset allocation represents the percent of stocks, bonds, and cash you hold and how they are diversified within your total portfolio. Stocks are generally considered a riskier investment which in turn could yield a higher return and bonds are often found to be a more conservative investment with a lower rate of return. Two hypothetical examples would be an aggressive investor may hold 80% stocks and 20% bonds where a more balanced investor may have allocations of 60% stock and 40% bonds.
Careful assessment of your risk tolerance both in conversation with your financial advisor and through use of questionnaires will help determine the appropriate asset allocation for your investments.
How should one proceed?
Headlines are intended to be attention-getters. Sometimes folks can focus too much on the political ‘advertising’. It has been said before, if in times of volatility watching the market makes you nervous….don’t watch. If watching the political jabs and speculation makes you nervous, recognize it to be advertising intended to make headlines. Don’t get drawn in and let your emotions override your common sense. Taking a historic perspective we can assess there may be volatility, maybe even extreme volatility for a short period of time, but we should anticipate the worlds greatest economic power will not simply cease to exist. Step back from your emotions. Seek the counsel of your financial professional who is aware of your particular situation. They will help you assess the following:
- Are you invested based on your risk tolerance?
- Have you taken into account your time horizon?
- Is the asset allocation of your portfolio appropriate for your goals and well diversified?
- What is the long term affect if you go totally to cash, as you may do more damage than good if you may miss the opportunity for gains and to keep up with future inflation when the markets start to move up again?
The stock market provides investors with a delicate balancing act. Even the savviest investors can make choices which could lead to both healthy profits or unwanted losses. Turning too aggressively in any one direction most likely is not the answer. Excessive cash holdings may be detrimental to a persons portfolio as the investor may not get back into the market at the right time and they risk not keeping pace with inflation. Remember, retirement can easily last more than twenty years. It is not possible to predict the future; however, we can look at historical data and trends to get a better understanding of what may come. It’s a persons time horizon, tolerance for risk, and goals which helps determine how to proceed with appropriate portfolio construction. Be careful to keep your eye to your goals and embrace your overall plan. Putting too much focus on the advertisements of an election year, may de-rail your good intentions if it makes you shy away from you long term plans. Seek the advice of your financial planner, tax professional, and estate attorney to make sure your overall plan is currently on track.
About the Author
Author, Marianne Martini Nolte, Certified Financial Planner ™ practitioner, provides fee-only, fiduciary, independent financial services. Her firm, IMAGINE FINANCIAL SERVICES (IFS) is a registered investment advisor offering advisory services in the State of California and in other jurisdictions where exempted. Marianne’s focus is serving women and generations X, Y, and Z. This article is intended as a high level view.
All written content is for information purposes only. Opinions expressed herein are solely those of IFS, unless otherwise specifically cited. Material presented is believed to be from reliable sources and no representations are made by our firm as to other parties’ informational accuracy or completeness.
For more in depth information, please reach out:
Marianne Martini Nolte, CFP®
Imagine Financial Services
Phone, (760) 472-5155
Anspach, D. (2020, September 02). Stock Market Performance in Presidential Election Years. Retrieved September 11, 2020, from https://www.thebalance.com/presidential-elections-and-stock-market-returns-2388526
Assessing Your Risk Tolerance. (n.d.). Retrieved September 11, 2020, from https://www.investor.gov/introduction-investing/getting-started/assessing-your-risk-tolerance
Boelter, M. (2018, October 01). What to do if you have too much cash. Retrieved September 11, 2020, from https://www.marketwatch.com/story/what-to-do-if-you-have-too-much-cash-2018-09-27
Chappelow, J. (2020, August 28). Economic Cycle Definition. Retrieved September 11, 2020, from https://www.investopedia.com/terms/e/economic-cycle.asp
Hulbert, M. (2019, September 10). Another stock market worry: The year leading up to a presidential election tends to be below average. Retrieved September 11, 2020, from https://www.marketwatch.com/story/another-stock-market-worry-the-year-leading-up-to-a-presidential-election-tends-to-be-below-average-2019-09-10
McKenna, K. (2020, August 18). Here’s How The Stock Market Has Performed Before, During, And After Presidential Elections. Retrieved September 11, 2020, from https://www.forbes.com/sites/kristinmckenna/2020/08/18/heres-how-the-stock-market-has-performed-before-during-and-after-presidential-elections/