We are just 28 days from the 2020 Presidential Election. Does the election cycle matter for the stock market?
Here’s the average return each month for the 4 year election cycle. I use returns since the 1960 election. I also include the 90%/10% percentile returns to give you a range.
The bottom line is there isn’t much of a pattern around the election itself.
With that said, there seems to be a big of a short-term hit right before the midterm elections and then a boost in returns after. It is statistically significant. (0.2% per month for the 2 years before, 1.1% per month after)
Overall, there is not a strong, linearly pattern between the cycle and returns.
One of the most dangerous things you can do when investing is extrapolate. “Hey, Tesla is up 800% in a year – it’s going to keep going!!” Extrapolation hurts you because a. past returns don’t predict future returns and b. these types of returns are unsustainable. Let me demonstrate.
FAAMG (Facebook, Amazon, Apple, Microsoft, and Google) are up 64% the last year. These stocks are now 18% of the value of all stocks.
So let’s BUY right!? I mean, these companies are everything and amazing and blah blah blah. Well, let’s see what happens over time if they continue to outperform.
Below I graph the percentage of the value of all stocks these 5 companies would represent over time assuming they a. return 64% per year, b. Return 30% per year, or c. Return 20% per year. I assume the stock market returns 12% per year.
You can see how this analysis can save you. In *5* years, these stocks would be worth more than the total stock market (that means the other stocks would have a negative equity value which can’t happen).
Even at 30% per year, this issue would happen in 12 years. At 20% per year – doesn’t sound like much right? – in 25 years they would be worth the entire stock market and then some.
This won’t happen. These stocks may not underperform, but certainly they wouldn’t outperform over time. It’s just not possible once you get to a certain size.
