Don’t let politics drive your investments
As we look forward to this upcoming presidential election cycle, many investors may want to make changes to their investment portfolios anticipating the outcome. They think one party is better for the economy and the markets than the other, and want to structure their portfolio to take advantage of that. But is that a sound way to structure a portfolio?
We often fall prey to the cognitive bias called confirmation bias, which is the tendency of people to interpret data that confirms their existing beliefs. In general we want to be exposed to information and opinions that confirm what we already believe, and have a desire to ignore information which challenges what we already believe. For example, if you think the stoplight by your house is red every time you approach it, you will only notice those times when it is red, but will forget all the times it was in fact green.
Consider the chart, a simple analysis of just two data points – the political party of the president and stock market returns. Depending on the outcome one was looking for, one could find a trend to confirm an existing belief:
- A person who believed a democratic president was good for the stock market might point out that there were twice as many negative years under republican presidents than democratic presidents.
- A person who believed a republican president was good for the stock market might point out that three of the four best years happened under republican presidents.
The market is driven by many factors, presidential cycles may or may not be one of them. The events in the gray boxes probably had a bigger impact on the market than who was in the White House.
Your clients are invested in the markets to grow their assets for some financial goal down the road. Presidential cycles or elections may have less bearing on the success or failure of meeting their financial goals than picking a plan and sticking with it. The current political environment (and the laws and regulations elected officials enact) may (or may not) have an impact on the performance of their investment portfolio now (or down the road). Don’t allow a client’s asset allocation to be driven by the whims of outside forces, like politicians.
The S&P 500 measures a basket of 500 stocks considered to be widely held and is meant to reflect the risk/return characteristics of the U.S. large cap universe. It is a market weighted index that selects its companies based upon their market size, liquidity, and sector.
Indexes are unmanaged and cannot be invested in directly. Returns represent past performance, are not a guarantee of future performance, and are not indicative of any specific investment.