The four-year cycle of a president’s term is replete with historically consistent market activity. Typically, the first two years of a president’s term are not too good, with market corrections averaging 2.6 percent taking place in 16 of the last 18 terms. Of the 16 corrections, 12 of them started in the first year and four in the second. As market cycles go, the bearish aspect of the presidential cycle is about as consistent as you get. On the other hand, the second two years are almost always good. This makes sense; if corrections happen in years one or two, then, by comparison, it isn’t hard to understand why years three and four perform better. Delving a little deeper, the conventional wisdom blames these swings on political strategy—the ramifications of looming elections prod politicians to do things to ensure a that a lovely economy is visible come Election Day, while the opposite often also holds true. In a president’s first two years, there is often a need to reign in the exuberance created by the policies of the prior administration, meaning interest rates and fiscal policies tend to get tighter in the first two years than the second. We are a little skeptical that a president can turn the good times on and off with such accuracy, but there is no denying the fact that at least historically, the first two years of presidential terms typically experience corrections while the last two usually enjoy rallies.
Interestingly, when broken down into quarterly returns, it is actually the fourth quarter of the second year that does the best. It has the highest historical median return of any quarter of the four-year cycle, and has often been when the stronger performance in years three and four has begun. Conversely, quarters two and three of the second year have typically experienced corrections.
2014 is a second year. This means that according to the historical presidential cycle, odds favor a correction at some point between now and the fourth quarter, at which point a new rally would begin that would carry over into next year. Granted, much of this kind of work depends on fiscal and monetary policies being at least marginally consistent across presidential terms, which is certainly not true in this case. In fact, the current situation of continued low interest rates and significant, if shrinking, Federal Reserve quantitative stimulus means the traditional presidential cycle playbook might be totally invalid, as they are not in tune at all with where a president is in his term. Nonetheless, if the cycle’s batting average is any guide, the market will face headwinds in the second and third quarters of this year.
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The views expressed here are that of myself or the cited individual or firm and do not constitute a recommendation, solicitation, or offer by myself, D2 Capital Management, LLC or its affiliates to buy or sell any securities, futures, options or other financial instruments or provide any investment advice or service. D2, its clients, and its employees may or may not own any of the securities (or their derivatives) mentioned in this article.
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