The Presidential Puzzle: Political Cycles and the Stock Market

TLDR: This article conducted an empirical analysis of the relationship between presidential elections and the stock market, and found that the average excess return of the valueweighted CRSP index over the three-month Treasury bill rate has been about 2 percent under Republican and 11 percent under Democratic presidents with an average diierence of 9 percent per year.

Abstract: The excess return in the stock market is higher under Democratic than Republican presidencies: 9 percent for the value-weighted and 16 percent for the equal-weighted portfolio. The diierence comes from higher real stock returns and lower real interest rates, is statistically signi¢cant, and is robust in subsamples. The diierence in returns is not explained by business-cycle variables related to expected returns, and is not concentrated around election dates. There is no diierence in the riskiness of the stock market across presidencies that could justify a risk premium. The diierence in returns through the political cycle is therefore a puzzle. IN THE RUN-UP TOALL PRESIDENTIAL ELECTIONS, the popular press is awash with reports about whether Republicans or Democrats are better for the stock market. Unfortunately, the popular interest has not been matched by academic research. This paper ¢lls that gap by conducting a careful empirical analysis of the relation between presidential elections and the stock market. Using data since 1927, we ¢nd that the average excess return of the valueweighted CRSP index over the three-month Treasury bill rate has been about 2 percent under Republican and 11 percent under Democratic presidentsFa striking diierence of 9 percent per year! This diierence is economically and statistically signi¢cant. A decomposition of excess returns reveals that the diierence is due to real market returns being higher under Democrats by more than 5 percent, as well as to real interest rates being almost 4 percent lower under Democrats. The results are even more impressive for the equal-weighted portfolio, where the diierence in excess returns between Republicans and Democrats reaches 16 percent. Moreover, we observe an absolute monotonicity in the diierence between size-decile portfolios under the two political regimes: From 7 percent for the largest ¢rms to about 22 percent for the smallest ¢rms.