Volatility is Winning the Election Year

Michael Normyle – Nasdaq’s US Economist joins IBKR’s Jeff Praissman to discuss how the market is potentially affected leading up to and after Presidential elections.

Summary – IBKR Podcasts Ep. 140

The following is a summary of a live audio recording and may contain errors in spelling or grammar. Although IBKR has edited for clarity no material changes have been made.

Jeff Praissman

Hi everyone. Welcome to IBKR podcast. I’m your host, Jeff Praissman, and it’s my pleasure to welcome back to the IBKR studio, Michael Normyle, Nasdaq’s, US economist. Welcome, Michael, how are you?

Michael Normyle

Doing well, thanks. Thanks for having me back.

Jeff Praissman

Oh, it’s my pleasure. Today, I want to talk about something that’s a little bit in the future, but as we all know, this is an election year. You know, I think it’s safe to say that people understand that election results can impact the market. Especially, certain industries historically do better depend on which party wins. However, I’m kind of willing to guess that many listeners may not realize that that elections can impact the markets much earlier than they may think. So, I want to start off, with this election we have about three main candidates, right? We have President Biden; we have Nikki Haley and former President Trump. As of now, there is an uncertainty who may be elected in November. How does this uncertainty historically affect market returns like pre-election?

Michael Normyle

Right. Like you said, a lot of people might think because Election Day is still so far away that it might not impact markets that much right now. But that’s not typically true. Like you said, elections, they create a lot of uncertainty and that’s not generally good for markets. So, research from Capital Group shows that going back to 1932, the S&P 500 tends to move sideways in election year through the primary season. So that’s really up until the summertime and after that, that’s when we start to see markets move up, you know, on average. And we also see increased volatility during election years, so some research from Bank of America recently shows that the VIX rises every month from July to November during election years, seeing an increase of 25% during that period. Then by December it drops 20% from November to December. Once we had the election results and that uncertainty has been cleared up.

Jeff Praissman

I’d like to go through, you know, each of the three major candidates and the market implications of each one winning. So, let’s start with President Biden.

Michael Normyle

I think the as you can alluded to earlier, each candidate has different policy aims, so that means different asset classes or sectors will benefit from each candidate’s potential presidency. And so that kind of gets back to the challenge that markets face in election years because for example, under President Biden, green energy is expected to benefit. But if Trump wins, then some might think that green energy stocks won’t do as well. So how are markets supposed to price green energy stocks currently? And so, under President Biden, we’re looking at, you know, green energy could benefit, but sectors like pharma, oil and gas, financials, big tech and treasuries could be hurt.

Jeff Praissman

And what about, former President Trump?

Michael Normyle

Right. So, under former President Trump, you might think that oil and gas, defense, maybe the VIX could benefit while some more country focused, you know sectors or assets like China, Taiwan, Mexico, Japan and even multinationals could be hurt along with the dollar and treasuries. And as I mentioned earlier, green energy, it might be worse off under a potential Trump presidency.

Jeff Praissman

And finally, how about Nikki Haley?

Michael Normyle

Right. So, under Nikki Haley, some of the research that I’ve seen suggests that maybe the dollar and treasuries could benefit along with defense and pharma along with oil and gas. While green energy, the VIX, China all might be hurt. So really, it’s all over the map depending on you know who wins. You see a lot of conflicting results, like under one President, you should be long one sector and under another you should be short, short that same sector.

Jeff Praissman

So there really is not a lot of overlap at all, even between the two candidates in the same party. There’s really sort of just depending on who’s winning or who wins any given sector could either have a positive or projected positive impact or projected negative impacts. As you already stated, closer to election, the volatility tends to rise, but my question is what if one candidate really begins to stand out? So even it’s like before November but say one of the three candidates really starts building a sizable lead. Where does the market price at in like it’s historically, does it sort of go against that trend and maybe drop or not raise as much?

Michael Normyle

Yeah, I think the part of the trouble is we haven’t had a lot of landslide victories in the last few decades. And right now, it looks like we’re going to have another close race, who knows? Like, you’re saying it could develop as we get closer to the election where, you know, one candidate really pulls ahead. But if we do look at a couple of the most recent landslides, we have the Clinton versus Dole election in 1996, where President Clinton won by 8 million votes and at that point, we saw the VIX pick up from very low levels early that year, but then it kind of plateaued in the 15 to 20 range. So, we didn’t really see a big spike and then going back to 84, Reagan won by almost 17 million votes. But of course, we don’t have VIX data for them. So, if you look at realized volatility, it was pretty much range bound at a pretty low level that year. So, it does seem like it’s really the uncertainty that contributes to higher volatility, which means we might be in for higher volatility this election cycle given where things are now. But like you are saying that could change and if we do have one kind of candidate really pull ahead, then maybe that that is a sign that we might see lower volatility.

Jeff Praissman

Yeah, you mentioned, historically like leading up to the elections, the market sort of goes sideways a little bit. Historically after the election, does it generally pick up? And we talked about different sectors and different industries benefiting, or not benefiting from each party. How about though, is there some historical data or something that you found in your research where a specific party winning has specific result on the overall market, right? Like obviously we can break down pharma or green energy or oil and gas, but just the overall market, as a whole, does one party winning have a different result than the other?

Michael Normyle

Right. So, we do see a little bump for markets, as a whole, after the election. If you look at average returns three months post-election since 1960, the average gain is 3.3% and on an annualized basis that’d be good enough for a 14% gain, which is a solid year for the market, right? But there’s no real rhyme or reason to what results in a stronger game. Like if you look at just reelections or a switch from Democrat to Republican or vice versa. But we do see a pattern where macro events matter a lot. So, if you look at the three month returns for the first elections of presidents Reagan, George W. Bush and Obama, the returns are all negative, but they’re also all around recessions, then their reelections all saw positive gains, but those also coincide with economic expansions. So naturally, the market is likelier to fall during recessions and rise during expansions.

Jeff Praissman

Mike, I want to switch gears a little bit and talk about IPO’s during election year. Do they tend to slow down or increase or just stay the same?

Michael Normyle

Yeah, IPO Activity is another case where we see that macro seems to matter more than elections. If you see a drop in in IPOs around the 2000 and 2008 election. But again, those were around the 2001 and credit crisis recessions, so the recessions seemed to matter more there than you know who’s President. And if you look at the current election cycle under President Biden, IPO activity didn’t fall off until Q1 2022. But that’s also when the Fed pivoted to hiking rates, which again, seems more important to IPO’s than won the Presidency.

Jeff Praissman

OK. So, it’s really more that macro effect that affects him versus whether it’s election year or the presidency. What are some good ways to track IPOs for our listeners?

Michael Normyle

This could be a whole another podcast, Jeff, but like I said, fed rates matter to IPO activity, so do other topics we discussed today returns and volatility, valuations also matter, since firms often want to IPO and public valuations are improving, or they’re better than private valuations. Investor sentiment is another factor since optimistic investors helped create a positive environment for IPO’s, too. And we actually just put together a leading index of IPO’s, the NASDAQ IPO Pulse and that aggregates all those metrics, along with some NASDAQ proprietary data. The good news is it’s up to a two-year high right now. So that suggests that we should see IPO activity kind of pick up over the next couple of quarters or so. So that’s where those kind of, that’s the type of data that you want to look at for where IPO markets are headed, IPO activity. And right now, we’re seeing kind of a positive trend for IPOs.

Jeff Praissman

Nice. Nice. So, any other thoughts you want to leave us, with the market, on this election year?

Michael Normyle

Yeah, I think we should be prepared for the normal impacts of elections on markets this year, namely higher volatility, and lower returns. But with the macro environment in such a good spot and rate cuts expected this year, that might help mitigate some of those negative effects of elections.

Jeff Praissman

You know, Michael, this is great. I really think you’re listening to this podcast and the information you just gave us, that it would be great to revisit us a little bit later in the year as we get maybe closer to elections just to kind of take the pulse. So maybe we kind of do a podcast on this exact same subject. It’s possibly like August or September, just as we get much closer, I think that would be great if you’re up for that.

Michael Normyle

Sounds good to me.

Jeff Praissman

Well, once again, I want to thank you for coming by and joining us at the IBKR Podcast studio. For more from Michael and NASDAQ, please go to our website under education and view previous NASDAQ webinars as well as our previous podcasts with Michael. Thank you again for listening until next time, I’m Jeff Praissman with Interactive Brokers.

Contact Info: Michael.Normyle@nasdaq.com