compass financial - weekly market commentary august 11 2008

8/14/2019 Compass Financial - Weekly Market Commentary August 11 2008

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Jeffrey Kleintop, CFAChief Market Strategist

LPL Financial

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LPL F INANCIAL RESEARCH

Weekly Market Commentary

By the start of March, John McCain had clinched the Republican nomination,

and since then the economy has been the number one issue for investors

and voters, so maybe it is no surprise to see the relatively tight relationship

between the performance of the stock market and McCains odds of winning

the 2008 presidential election. [chart 1]

Will the markets dictate the winner of the election?

Historically, there is little predictability in the outcome of a presidential elec-

tion based on stock market performance during the incumbent partys term

in office. Franklin D. Roosevelt was re-elected in a landslide victory in 1940

despite huge losses in the S&P 500 during his term. Harry Truman and Rich-

ard Nixon also were re-elected in the face of lackluster stock market results.

Moreover, vigorous performance in the markets does not guarantee elec-

tion for the incumbent party. Adlai Stevenson lost even though the market

rose 75% in 1949-52 under his partys administration, George H. W. Bush

lost in 1992 even with a 57% gain in the stock market during his tenure,

and despite the nearly 80% gain in the S&P 500 in the four years from 1997

through 2000, incumbent party candidate Al Gore was unable to hold onto

the White House in 2000. However, during the 90 days leading up to Election

Day the stock market has predicted the winner fairly accurately.

Over the past 20 presidential elections, during 11 of the 12 times the

incumbent party was reelected, the S&P 500 had posted a gain during

the 90 days prior to Election Day.

The S&P 500 posted a loss during the 90 day period 6 of 8 times when

the challengers party was elected.

A negative outlook by investors reflected in a falling stock market has tended

to favor political change, while market gains may indicate that investors

believe the macroeconomic environment is on the right track benefiting

incumbents. History tells us that the modest gains in the stock market since

the start of the current presidential term in 2005 may be much less useful in

predicting the election outcome than what stocks do over the next 90 days.

Will the winner of the election determine marketsperformance next year?

During the year following the election the markets have demonstrated some

impact from the election. Over the long term, there has been no significant

stock market performance difference in the year after the presidential elec-

tion based purely on which political party won the White House. Instead,

August 11, 2008

Is McCains Stock Rising?

Highlights

History suggests it is not surprising to see

the relatively tight relationship betweenthe performance of the stock market and

McCains odds of winning the 2008 presidential

election since McCain clinched the Republican

nomination.

The stock market has predicted the winner of

the presidential election fairly accurately. For

example, over the past 80 years, during 11 of the

12 times the incumbent party was reelected the

S&P 500 had posted a gain during the 90 days

prior to Election Day.

A negative outlook by investors has tended to

favor political change and a win by challengers,

while market gains may indicate that the

macroeconomic environment is on the right track,

which has benefited incumbents.

We believe the stock market will post a fourth

quarter rally, typical of an election year. While

that rally could already be underway, we continue

to believe that more volatility is likely over the

remainder of the summer, leaving the markets

influence on the election in doubt. The potential

fourth quarter rally may not transpire until after

Election Day, as it did in 1992 and 2004.


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the stock market has been more likely to respond to whether the incumbent

political party won or lost. Reflecting back on the year after an election over

the past 80 years, the stock markets reaction has had three distinct periods.

During the turbulent period of the 1920s, 30s, and early 40s that

included the stock market crash of 1929, the Great Depression, and

World War II, the stock market favored challengers over incumbents.

From the mid-1940s until the early 1970s the stock market reaction to

the election outcome was mixedneither favoring nor fretting over

incumbents.

Over the past three decades, noted for above-average stock market

returns and lengthy economic expansions, investors appear to have

displayed a strong preference for incumbents

This result is intuitive, since another term for the same party is likely to

result in a more consistent geopolitical, legislative, and regulatory environ-

ment than a shift in the balance of power to a new administration, raising thelevel of uncertainty. The uncertainty can be seen, when incumbents lose, in

greater risk aversion for both corporate leaders in pursuit of earnings growth

and investors in the form of valuations. S&P 500 earnings-per-share growth

has been positive on average during the first year of an incumbents term,

but negative when an incumbent loses. Likewise, price-to-earnings multiples

have typically expanded during the first year of an incumbents term and

contracted when the incumbent loses.

1 McCains Presidential Prospects Track theStock Market

Price of Intrade contract John McCain to win 2008 USPresidential Election

Source: Intrade, Bloomberg, LPL Financial

Source: Bloomberg, LPL Financia

1475

1425

1375

1325

1275

1225

1175

1125

45%

43%

41%

39%

37%

35%

33%

31%

29%

27%

25%

Int rade Odds of M cC ain Win S &P 50 0

Feb-29 Mar-29 Apr-29 May-29 Jun-29 Jul-29STOCK MARKET ELECTION REACTION HAS HAD THREE DIFFERENT PERIODSBold Lines Represent Years When Incumbent Lost

U.S. Treasury Zero Coupon Bonds (STRIPS)

Market PerformanceAverage Return E lection Year

S&P PricePerformance YearAfter Election Incumbent Party Winning Party

Year after FavoredChallengersChallenger = 46.6%Incumbents= -22.8%

1928 -11.9 R R1932 46.6 R D

1936 -38.6 D D1940 -17.9 D D

MixedChallenger = 1.7%Incumbents= 3.7%

1944 30.7 D D1948 10.3 D D1952 -6.6 D R

1956 -14.3 R R1960 23.1 R D

1964 9.1 D D1968 -11.4 D R

1972 -17.4 R R

Year afterFavored IncumbentsChallenger = -6.8%Incumbents= 18.9%

1976 -11.5 R D

1980 -9.7 D R

1984 26.3 R R1988 27.3 R R1992 7.1 R D

1996 31.0 D D2000 -13.0 D R

2004 3.0 R R

? 2008 ? R ?


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WEEKLY MARKET COMMENTARY

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Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by any Government Agency | Not a Bank/Credit Union Deposit

This research material has been prepared by LPL Financial.

The LPL Financial family of affiliated companies includes LPL Financial, UVEST Financial Services Group, Inc., Mutual Service Corporation,

Waterstone Financial Group, Inc., and Associated Securities Corp., each of which is a member of FINRA/SIPC.

IMPORTANT DISCLOSURES

This report has been prepared by LPL Financial from sources believed to be reliable but no guarantee can be

made as to its accuracy or completeness. The opinions expressed herein are for general information only, aresubject to change without notice, and are not intended to provide specific advice or recommendations for any

individuals. Please contact your advisor with any questions regarding this report.

Investing in international and emerging markets may entail additional risks such as currency fluctuation and

political instability. Investing in small-cap stocks includes specific risks such as greater volatility and potentiallyless liquidity.

Stock investing involves risk including loss of principal Past performance is not a guarantee of future results.

Indices are unmanaged and cannot be invested into directly.

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest

rate rise and are subject to availability and change in price.

In the bond market, the political party of the winner of the election, rather

than whether the incumbent or challenger was elected, has historically af-

fected performance. Since the late 1920s, during the year after a presidential

election the bond market has fared better under a Republican president, withgovernment bond returns of 6.8%, than a Democrat, 4.3%, as measured by

the Ibbotson Intermediate Term Government Bond Index.

While market performance is likely to have some measurable influence on

the election outcome, and likewise, the political environment has some influ-

ence on market performance, the relationship is by no means assuredly pre-

dictive. We believe the stock market will post a fourth quarter rally, typical of

an election year. While that rally could already be underway, we continue to

believe that more volatility is likely over the remainder of the summer, leav-

ing the influence on the election in doubt. The potential fourth quarter rally

may not transpire until after Election Day, as it did in 1992 and 2004.

compass financial - weekly market commentary august 11 2008

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