On January 20, 2017, Trump finally became the 45th US president. What will happen to the market in the first year of his term? The consensus view on the S&P 500 index from 15 Wall Street strategists will be a rise of 4.4%, with individual estimates of everything from 1.6% to 10.4%. Historically, the market seldom moves according to the consensus wisdom, and often surprises us to the downside or upside.
The downside here means the market falls from flat (+1.6%) to down double digits; while the upside could push the market to well above 10.4%. Either way, it would be a “market surprise” in 2017.
So will the market astound us to the downside or upside? Both are possible…
Four-year Presidential Cycle
This is the first year of the presidential cycle. War, bear markets and recessions tends to begin in the first two years of a presidential cycle, with the market being the weakest in year one, according to the Stock Traders’ Almanac. Since 1950, S&P 500 gains average 6.00% in the first year of a presidential cycle.
In terms of Aswath Damodaran’s data, since 1950, during 15 post-election years, the S&P 500 registered negative returns in seven cases: 1973 (-14.31%); 2001 (-11.85%); 1957 (-10.46%); 1969 (-8.24%); 1977 (-7%); 1981 (-4.7%); 1953 (-1.21%);
In other eight post-election years, the S&P generated double-digit positive returns in seven years and a single-digit return only in one year: 2005 (+4.83%); 1965 (+12.4%); 2009 (+25.94%); 1961 (+26.64%); 1985 (+31.24%); 1989 (+31.48%); 2013 (+32.15%); 1997 (+33.1%).
What’s implied by this data? It clearly shows us that the S&P 500 has an equal chance (46.7%) of obtaining a negative or double-digit positive return, with a very slim chance (6.6%) of producing a consensus mediocre return +4.4%, here, + 4.83%.
That also seems to say: in the first year of a presidential cycle, if the market rises, it will go up a lot, average up 24.7%, from 4.83% to 33.1%. If it drops, it will be a normal correction, average down 8.3%, ranging from negative 1.21% to negative 14.31%.
Ten-year Stock Market Cycle
Since 1900, the years ending in a seven produced an average loss of 2.14%, the lowest among 10 years of decades:
1937 (-35.34%); 1907 (-33%); 1917 (-31%); 1957 (-10.46%); 1977 (-7%); 1947 (+5.2%); 2007 (+5.48%); 1987 (+5.8%); 1967 (+17%); 1927 (+26%); 1997 (+33.1%).
A rising market happened six times, while the market sank five times.
A down year-seven market frequently bottomed late in the year, specifically in December, then started another two-year or longer bull market: 1907, 1917, 1937, 1957, and 1977.
A strong up year-seven market usually began a run-up in the first part of the year, until a correction into an October bottom. Then the market commenced one more substantial up move: 1927, 1997.
Five year-sevens also were the first year of a presidential cycle: 1917, 1937, 1957, 1977, and 1997. Except for an up market in 1997, the other four-seven years all saw down markets. Therefore, the odd favors downside: 4 to 1. In a year-seven down market as mentioned above, buying a later-year bottom will be remarkably lucrative for the next couple of years.
Since the above sample is too small for many investors, it may not seems so compelling to infer that 2017 will be a down year. We need to resort to other market factors: economic, fiscal, monetary, or technical.
The Market Factors
This bull market initiated on March 9, 2009 during the darkest days of the great recession and will officially be in its 8th year two months from now. The Trump administration inherits a strong economy from the Obama administration, with latest quarter GDP up 3.5%, and an unemployment rate dropping to 4.7% from the peak 10% seven years ago.
Theoretically, Trumponomics, including a tax cut, infrastructure expanding and bank deregulation will provide further fodder to the growing economy. The problem is when and how Trump’s fiscal policy will improve GDP’s growth rate to the next level- say above his target 4.00%. Meanwhile, a higher GDP growth rate cannot guarantee a stronger stock market if there are too many uncertainties along the way.
For instance, USA GDP grew at a rate of 4.1% in 2012, much higher than the rate of 3.3% in 2013. But S&P 500 rose 32% in 2013, far higher than the 15.9% it increased in 2012. Higher GDP growth rate in different presidential administrations does not apply to a stronger market, either. In the Clinton administration, the average GDP growth rate was 5.8%, much lower than the 7.9% increase in the Reagan administration. But S&P 500 in the Clinton era climbed a whopping 252%, much higher than Reagan’s 169%.
Now that the GDP factor cannot explain the magnitude of a stock market movement, what else can solve this market conundrum? Uncertainties!
A lower growth economy with fewer uncertainties may create a stronger stock market than a roaring economy with more unpredictability. The Trump administration will face several major uncertainties this year:
- Domestically, excessive infrastructure expanding and a tax cut will create inflation pressure, which may force the Federal Reserve to speed up the pace in hiking interest rates. A harsh trade war will more than offset the tax cut effect. And it may not only fuel the inflation fume, but may suppress the economy as well.
- Both Congress and the House of Representatives at Trump’s side will easily facilitate the implementation of Trump’s policies. No market likes gridlock, but who knows how these policies will impacts the market? If Trump wants to change so many things, who can measure the benefit of those changes? If all change is good, how can the Obama bull market rise 180%?
- Globally, unlike Brexit, if either France or Germany to leave the Europe Union, the Euro will be no more, creating huge market turmoil, and sending the US dollar skyrocketing. The earnings of S&P firms will suffer tremendously.
Having said that, as long as no harsh trade war happens among the US and other major economies, those uncertainties may be exaggerated or over stressed. Trump’s fiscal policy may be good for the market in the long run.
Janet Yellen’s Fed may not raise federal fund rates three time as promised in December’s FOM. Instead, she’ll probably raise rates two times. This may still be regarded as too hawkish for a nascent Trump administration, but not for the market.
From a technical standpoint, the S&P 500 index enters long-term bullish trend, which seems to hint that those uncertainties may not materialize at all and may only thrash the market temporarily into correction or run-off-mill bear market. Lo and behold: black swan–the double digit positive market surprise!
Mr. Gunning Ju, an independent options/equity trader and researcher for past 15 years. Previously he was an independent financial advisor at World Finance Group, and a former research director at GF Securities Co., a top brokerage firm in China. Mr. Ju’s research focuses on financial market history, presidential economics, and investment strategy and selection. Mr. Ju received an M.S in finance from Texas Tech University in 2000 , M.S in economics from Wuhan University in 1989, and B.S in math from Hubei University in 1983. In 1996 Mr. Ju co-translated Haim Levy’s book Portfolio and Investment Selection. His blogger is: https://globalequitymarket.blogspot.com/