Debunkery Video: Presidential Term Cycles are Stock Market Voodoo

Transcript

Ken Fisher:

This is where you have to be extra special careful. This is where getting the market right is terribly crucial. It's a lot harder to be right in a first and second year than it is in a third and fourth.

Every month, I cover another short chapter from my book, Debunkery, that has chapters that are about 2 or 3 pages long, taking a topic that people talk about and putting 'bunk' into the notion of it. There's always been debate about whether there's presidential cycles or not, and this is one that's about bunk, but it's also about what's not bunk. And it's number 40. It's called presidential term cycles, or stock market voodoo. Now, the fact of the matter is there's never, ever one single thing that is the driving determinant for stocks for all time. That would just be ridiculous, because it would be consistent enough that everybody would figure it out. When everybody figured it out, they'd bet on it, and since they'd all bet on it, it would stop working, because if it worked all the time, people would figure it out.

But the presidential cycle, which many people decry, has actually worked pretty well for a pretty long time. You just kind of have to see the nuances of it and they are these: There's a cadence to what goes on within presidential cycles, whether it's Republicans or Democrats that are president. There's an effect of midterm elections that goes on, regardless of who the president is, and there's a reality of the way presidents behave that impacts stocks on a fairly time consistent basis. So, let me take you through that. We elect a new president. We get the first year of their inaugural cycle, the first year of their four years of their presidency. President wants to get a lot of stuff done and has to decide what that term's highest priorities are going to be. The president knows that as a routine basis, with almost no exceptions in history— some, but almost none—his party will lose opposition, will lose seats in the midterm elections two years later to the opposition party.

Whether the president is a Republican or a Democrat, he—and I say he because up to now, they always have been—therefore knows that whatever would be his toughest legislation to get through, what to him, are the most important signature items of his presidency that he most desires to be his legacy. He's got to get them through in the first two years, because if he can't get them through in the first two years, he has no chance to get them through in year three and four after the midterms, when his party has less relative power in Congress. So, he and his Congress try to get those things through. Now, here's what happens. Sometimes, that creates big fear, because sometimes, people are afraid of those things. The reality is most legislation, not all, but most legislation, particularly those impacts, taxes or regulation or property rights somehow takes from these in some way to give to those. As I say in the chapter, sometimes it's taken from the rich to give to the poor. Sometimes it's taken from these rich to give to those rich. Sometimes it's taken from these poor to give to those poor, but the people that it's taken from tend to hate it a lot more than the people that are going to get the getting of it like it for two reasons: one, Americans categorically hate losses and has been measured for a long time.

Originally by behavioralists Richard Thaler and Shlomo Benartzi, but it's been duplicated many times since then. The average American hates a loss two and a half times as much as they love a similar size gain. So, the one that's being taken from hates it more than the one that's going to get it loves it. And then the other part is, the one that's going to get it doesn't fully believe they're going to get it anyway until after they've got it. The bird in the hand, because they're skeptical that governments can actually give them anything in the first place. The fear of all that starts in the first year, it continues in the second year. If you actually look at returns of the S&P 500 going back to its accurate daily price beginning in 1925, by first year, second year, third year, fourth year, almost all negative years are in the first two years. There has never been a third year of a president's term that has been negative since 1939, and it was down only 9/10 of 1% as World War II was starting.

The fact of the matter is, third years of president's terms are the most consistently positive and with the highest average returns. First and second years are positive 60% of the time, each roughly to a rounding error. But that implies that they're  negative 40% of the time to a rounding error. And that's most all the negative returns. The fourth year of a president's term and the date is in the book. The fourth year of president's term has a few more negative years than the third year, but nothing like the first and second. Once you get that cadence and you see that, you say to yourself, this is beyond just, you know, flipping coins with a 50/50 odd. The fact of the matter is, it's driven by the fact that all big legislation in America, for good or for bad, happens in the first two years of president's term. So there's almost no big legislation that ever happens in the third or fourth years. You need some kind of an emergency crisis for that, doesn't really happen much.

The other thing that happens after the mid-terms is the president says, well, I'm either a first-term president or I'm a second-term president. And if I'm a first-term president, I usually want to get reelected. And so, what do I do if I want to get reelected? I start campaigning, I start making nicey-nicey promises to all kinds of people, I start talking to people about the successes that the things I did in my first two years of accomplished for them. Now, you know, politicians guild a lot, right? Whether they're Republicans or Democrats, they're they're talking a lot of smack that isn't necessarily always true. As the book points out, you know, I always refer to politics as being, you know, like the Latin origin "poly" meaning many, and ticks, meaning small-blood sucking creatures. And the fact of the matter is, the president's just a big tick, and he knows how to do that blood-sucking game pretty well; that's how he got to be president. If he didn't know how to do that game pretty well, he would have lost the campaign in the first place.

Now, he's looking for the second place for a second term. And so, he's polishing up his promising and polishing up his nicey-nicey. And that tends to make people feel better because there's no legislation going on of importance and lots of nice promises about generalities and nice things he's going to do. And that's before you get into the heat of the campaign that happens in the fourth year, where suddenly there's other people attacking him. But in the third year, it's a little premature for that in a real way. And so, it's all talk and sweetness and kisses and love and that's another part of why the third year of a president's term is so good. Now, here's the part that's tricky. And the book goes into this a little. In the first and second year, when it's not negative, it's often really big. The problem with the first and second year is you got a lot of negatives, but you got a lot of big first years and a lot of big second years, and sometimes, not often, you get two negative years in a row. Sometimes, you get two positive first and second years in a row. Pretty often, you get a negative first and a positive second, or vice versa. But the first and second year—and we're entering in 2025 in the first year—this is where you have to be extra special careful.

This is where getting the market right is terribly crucial. It's a lot harder to be right in a first and second year than it is in a third and fourth because third year is almost always positive. The aftermath of the mid-term election is almost always a positive feature. And if you go back into my writings in the New York Post and otherwise, you can see an awful lot of me talking about the mid-term miracle and the power of the third year for presidents' term, and that worked really well in this cycle, it'll work really well again in the next cycle, although there's other factors beyond politics to consider. But in the first year of the president's term, we have to confront the reality, which will be something I'll do as I create my forecast for the year in late December, early January, on whether 2025 is a negative year or whether it's a big positive, because it's in that first and second year of president's terms where you get those the most, where you get the most variation of returns, and where seeing it correctly becomes the most critical and most important. And I urge you, therefore, to go and read Debunkery, chapter 40 on the presidential cycle and see the power that exists in it.

Thank you much for listening to me. Hope you found this educational useful and want to see more and tune back in next time. Appreciate it.

Voice of Ken Fisher:

I very much hope you enjoyed this video as part of my series on debunking Common Market Myths. To watch more videos like this, click the link on the screen and make sure to subscribe to Fisher Investments YouTube channel. Thanks so much for listening to me.