Amid such a politically heated year, investors are likely assessing whether their investment decisions could shift depending on who is sworn into office. Some might believe certain sectors will outperform based on who enters the White House, others might be hypothesizing how each candidate will affect tax and/or interest rates. Yet an important reality that many investors fail to recognize is the fact that their investment choices, particularly the portfolio risks they are willing to tolerate, are largely contingent on whether their preferred candidate wins or loses.
When our favoured candidate wins an election, and thus the political climate is aligned with our political identity, we tend to display more confidence in the market along with a greater willingness to incur portfolio risk. This translates into an increased allocation to risky assets and a propensity to prefer higher beta, small-cap and value stocks. On the other hand, if our preferred candidate loses, we find ourselves shifting towards safer investments such as bonds, as we anticipate the worst from the new administration. The Wall Street Journal recently reported on a research study entitled “Political Climate, Optimism, and Investment Decisions”. The study examined the political impact on investor sentiment in the three presidential election cycles from 1991 to 2002. When the Democrats won in 1992 and 1996, Democratic voters started favouring domestic stocks and trading less frequently than their Republican counterparts. Yet after the GOP’s 2000 win, the opposite pattern emerged, as optimistic Republicans began longing local names and trading less often.
This behaviour is not necessarily incorrect. Yet regardless of its intrinsic merits, it is not derived objectively. Indeed, political biases and beliefs can inherently skew investor sentiment – and following an unexamined gut feeling can be detrimental to a portfolio’s returns. Furthermore, trading more actively when our preferred party is out of power is classically self-destructive. It signals reduced market confidence and in turn shuns a buy-and-hold approach. In fact, the study’s researched discovered that it weakens portfolio performance altogether.
Moreover, this biased pattern has only intensified since the early 2000s, as political climates around the world have become more polarized. For instance, in the days leading up to Britain’s historic Brexit vote, financial markets in the US and UK rallied significantly, as investors had priced in a “remain”. They were confident in believing they would safely navigate around the likelihood of a “leave”, and take off to the upside, despite polls indicating the vote would be a close call. Thus when the Brexit outcome was revealed, the reaction in financial markets was less than euphoric. An immediate sell-off battered global stocks as investors flocked to the safety of US Treasuries. Alas, investors loathe surprises – yet what they despise even more is uncertainty – and the referendum result produced a surfeit of it. Nonetheless, the majority of post-Brexit losses were quickly recouped in the weeks following the vote. In fact, not only have US equity prices weathered the Brexit storm – they are approaching all-time highs.
Objectivity is hard to maintain in the face of partisan favour. For better or worse, our affiliations influence us – both as investors and as humans in any arena of life. Emotions, personality traits, personal experiences and subconscious mental mistakes can exert a powerful influence on our decisions. That is why one of the best approaches in neutralizing these biases is to subject ourselves to scrutiny – to allow other parties to analyze on our behalf. Objective professionals are disciplined and equipped to withstand the shock of surprise. Your Investment Advisor’s reflex will not be to sell in the face of it. With the dramatic and uncertain financial markets we face today, consulting with a trusted expert, one who maintains a long-term strategy and outlook, is one of the best means to remain in control.
The NFIB Small Business Confidence Index for July rose to 94.6, up 0.1 point from the previous month. The subcomponents were mixed with 4 up, 4 down and 2 unchanged.
The latest Realty Trac foreclosure report was not available, but U.S. banks started the foreclosure process on 36,863 residential properties in July, down 5% from the previous month and 19% below the level of a year ago.
US retail sales were flat in July, falling below expectations, with June’s strong increase of 0.6% being revised upwards to 0.8%.
US non-farm payrolls rose strongly for the second straight month, rising by 255,000 in July, with June’s number being revised upwards to 292,000. The unemployment rate remained unchanged at 4.9%.
The ISM non-manufacturing index for July declined to 55.5 from 56.5 in June. Increases in new orders and order backlog were offset by decreases in supplier deliveries and employment. The US trade deficit for June widened to US$44.5 billion from a revised US$40.9 billion the previous month. Exports rose by 0.3%, while imports were up by 1.9%.
Canadian employment dropped by 41,000 jobs in July, with the unemployment rate ticking up a notch to 6.9%. There 71,000 full-time positions lost, which were offset by a gain of 30,000 part-time positions. Job losses were concentrated in the public sector. Canada’s trade deficit for June widened slightly to C$3.6 billion compared to C$3.5 billion the previous month. Exports rose by 0.6%, while imports were up by 0.8%. Canadian housing starts declined in July to a seasonally adjusted annual rate of 198,000 units from 218,000 units in June. The decline was concentrated in urban multiple unit dwellings. The Teranet/National Bank home price index rose by 2.0% in July. Home prices in the markets surveyed were 10.9% higher compared to the same time a year ago.
Sources: US Bureau of Labor Department, US Department of Commerce, RealtyTrac, US National Federation of Independent Business, and Statistics Canada, Teranet/National Bank of Canada.