True or False: Political Gridlock Is Fuel for the Stock Market

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Political gridlock may be bad for the country, but it's good for the stock market, according to an old market adage. But wait: The results of the past 61 years don't bear that out, says one student of the market. Yes they do, replies another market guru. Who's right?

Like the batting averages pored over by fantasy baseball fans, stock market statistics can be sliced and diced in a number of ways. It all depends on who's doing the dicing.

The study of market performance and politics has taken on new importance since Nov. 2, when Republicans took control of the House of Representatives, while Democrats retained control of the Senate. Since 1949, however, there has never been a Democratic president and a split Congress, so there's no direct comparison.

Contrary to Conventional Wisdom

Robert R. Johnson, managing director of the CFA Institute, a nonprofit association in Charlottesville, Va., says the "conventional wisdom that gridlock is good for the market is wrong."

Johnson studied 402 months of gridlock -- defined as a president of one party and both houses of Congress controlled by the other party – and 270 months of what he calls political harmony, in which all three institutions were controlled by the same party.

"The rationale for the 'gridlock is good' conventional wisdom is that gridlock reduces economic uncertainty because it lessens the chance for significant legislative change," Johnson says. "People buy into that theory, because it fits nicely into a cynical view of government."

Johnson and two colleagues found that stock market returns for the largest companies were about the same -- a little more than 8% -- over the period 1949 to 2004. Small cap stocks, however soared 27% during periods of harmony, compared with a miserly return of just under 5% in times of political gridlock.

Johnson cites the recent example of the Dow, which climbed about 40% during the first two years of the Obama Administration -- a period when the Democrats controlled Congress as well as the White House. During the last two years of the Bush administration, with a Democratic-controlled Congress, the market rose by 36%.

Division Is Divine

But that's not always the case, says Jeffrey Hirsch, editor-in-chief of the Stock Trader's Almanac. According to Hirsch, the gridlock combination of a Democratic president and a Republican-controlled Congress produced the best-ever result: a 19.5% annual average increase. All six of those years were under President Clinton in the late 1990s. Under President Reagan, gridlock did pretty well, too. The market was up an average of 12.9% over six years, when the Congress was split between a Democratic House and Republican Senate. In four of those years, the Dow was up by 20%.

The truth may be that gridlock or political harmony actually plays a smaller role than many believe. Johnson says he did a separate study that showed the market was more closely connected to interest rate policy set by the Federal Reserve. When Fed policy is loose, the market tends to head higher, and when it's tight, the market often tumbles, he says.

"From a portfolio standpoint, I would worry less about who is in control, because the Fed is a heckuva lot more important than the political situation," Johnson says.

He adds that the Fed is often most expansive in the third year of a presidential term because the midterm elections are over and the ensuing presidential campaign has not yet begun, so the Fed can appear to be above the political fray.

"Atypical Times"?

But there is one area where both experts find agreement. Hirsch says the third year of a presidential term is often the best, because that's when "politicians do things to get reelected, which puts money into the system and drives the market higher."

Before you wager your life savings on the market next year, however, consider this: Johnson believes an unprecedented amount of stimulus money has been pumped into the economy in the last two years, and that may change the way things work.

"I think we're in atypical times, and I wouldn't expect that the past relationship is going to hold," he says. The market in 2011 may indeed defy attempts to predict its course with statistics. The best bet is probably to avoid gambling on such flimsy evidence.

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Steven

Actually political gridlock is good for the country, because it keeps the dems from coming up with new ways to grab power and creat new taxes, allowing the economy to get back to work. The Dems have the economy locked up like a political prisoner.

November 15 2010 at 3:35 PM Report abuse rate up rate down Reply
sstew1221

There's an old quote from Yogi Berra that "It ain't over til the fat lady sings". As to the issue of gridlock, it must be remembered that the game hasn't even yet begun although the fans are already jeering and cheering. We can only hope that she has enough chloroseptic to keep from going off key.

November 08 2010 at 12:03 PM Report abuse rate up rate down Reply
arjohny

oh if gridlock could only happen . . . or better yet: congress takes a 10 year sabbatical . . . then our liberty and freedom remain somewhat secure, the money stays in our pockets without new taxes and regulations being passed for the special iterests, and the constitution is free from attack.

November 08 2010 at 11:56 AM Report abuse -1 rate up rate down Reply
beemerboxer

Traditionally gridlock is good for stocks as the market functions better if not assailed by regulation and a blind eye government. To expand the opinion from another direction, would stocks also benefit from a government capable of doing business everyone could appreciate? Why must gridlock be bad for the nation and yet good for the stock market? Wall St. has long proved its slippery ways and America suffered as the greedy led the greedy to meltdown. Regulation is needed but not too severe, not to mild. The new political mood in DC can help the American people by encouraging a healthy fiscal market without gridlock. It is now up to them.

November 08 2010 at 11:40 AM Report abuse +1 rate up rate down Reply
1 reply to beemerboxer's comment
mopsy1

yeah those old pesky regulations---who needs 'em? ask the folks who lost it all to the greed and no regs contingent.

November 08 2010 at 12:07 PM Report abuse rate up rate down Reply
tsafa

Bernenki, STOP PRINTING MONEY ! Let the Free Market Work ! Stop delaying the recovery with cheap gimicks ! Businessmen are not stupid !

November 08 2010 at 10:30 AM Report abuse +1 rate up rate down Reply
xpriori

Assumes you invest in USA companies, which I do not do ! American companies have a heavy burden to carry............lots of Taxes on both Balance Sheet and Income Statement.

November 08 2010 at 4:39 AM Report abuse rate up rate down Reply
Patriotic Paul

There are only 3100 counties in The United States. People need to get back to local business and investing. Most people agree that the two political parties do not do what they wish effectively. The housing bubble hid the fact that massive amounts of US capital/Jobs went abroad. The 12 trillion dollars our treasury just put out was used to buy our nation. The taxation and extermination of small business has created a corporate, thus government, dependence for subsistence. Obama’s job is to soften the blow of Corporate/ bank controlled socialism. The Republicans and Democrats have been in cahoots with these corporations since the 1996 gatt treaties were adjusted. Control the food supply, control the money supply, control the media (always that dividing media bias) purposely extract the wealth of the middle class in order to stop the local trade we all lived by in years past. The valuable lessons our CIA learned along, with the Neocons and the Chicago school thugs , in south America have been brought home to complete the takeover of America. Open your backyard gate to your neighbor, you need him more than ever in human history. Share a meal once or twice a week to cut down costs. Lend him your excess cash through a local bank or clearing house, We need to trust each other again, who can write up a contract to protect the interest of all parties. Cut the big NY Banks off. We must get back to Local small business by small individuals for the community. We are now on the verge of a socialist takeover from not government but private corporations controlling the government. Our dependence on government has destroyed us as a nation as our forefathers warned.

November 08 2010 at 12:41 AM Report abuse rate up rate down Reply
1 reply to Patriotic Paul's comment
adofilli

Hey Libs the new congress doesn't start till next year and no grid lock we have a majority remember

November 07 2010 at 10:53 PM Report abuse -1 rate up rate down Reply
Donald A Largen

We all noticed that as soon as the mid term was done and said Obama and the Fed chief did a Q2 to raise stock prices to benefit the rich and we the consumer will be faced with higher prices on commodities. Same old wheel and dealing the rich get richer and the poor get poorer, time for a tax revolt!

November 07 2010 at 9:53 PM Report abuse +2 rate up rate down Reply
torandersen

so who's easier for wall street to get money from, republicans or democrates... well right now the Democrates are just itching to give money away _ 600 _ billion, either way each party has given away trillions in the past 4 to 6 years, but will it help them with their elections?" when it comes down to it neither give a dam what the public has to say about it they both do it anyway.

November 07 2010 at 9:41 PM Report abuse +3 rate up rate down Reply