Election Collection: The Antidote to Uncertainty

Election Collection: Markets climb a wall of worry. This popular axiom has long been used to describe how, despite all the market shocks and concerning economic, political and geopolitical headlines, stock markets have historically proven they are fairly resilient. This resiliency was put to the test recently when voters in the United Kingdom (UK) voted to leave the European Union (EU). And, this resiliency may be put to the test during this year’s U.S. election cycle as well. Let’s look at both of these items in greater detail.

UK Referendum Uncertainty
After 43 years of EU membership, the UK voted to leave the EU in June. While polling data prior to the referendum suggested it was a close race, prediction markets (i.e., places where people can bet real money on an outcome) and global investment markets anticipated that the UK would stay in the EU. Since investors guessed the outcome wrong, markets reacted negatively following the news.

The U.S. stock market sold off 5.3% and non-U.S. stocks sold off 9.8% in the two trading days following the leave vote. After that sudden drop, stock markets rallied for multiple days and U.S. stocks recovered almost all of their losses, while non-U.S. stocks recovered about two-thirds of theirs.

These types of knee-jerk reactions from the market are fairly common, as are the quick recoveries that have historically followed. When new information hits the market, investors’ initial reaction is to fear the worst and then evaluate the situation.

The uncertainty and the volatility caused by UK vote to leave the EU is most likely not over. The UK still has not started the clock on their two year exit plan that they must follow according to their EU treaty, so we don’t know what the potential impacts of their decisions are going to be. Further, because some of the concerns of the UK (e.g., a desire for independence, concerns over immigration) are shared by other nations in the EU, there is speculation that other countries may try to leave the EU, causing further shocks.

U.S. Election Uncertainty
In the U.S., it is an election year and this election cycle has been dominated by non-establishment candidates. On the Republican side, the presumptive nominee, Donald Trump, has no public service or government experience. On the Democratic side, the popularity of Bernie Sanders surprised many, but their mainstream candidate, Hilary Clinton, is their presumptive nominee.

Currently, polling data suggests that Hilary Clinton will win the election with 44.9% of the vote and Donald Trump will get 40.3% (source: Real Clear Politics, June 29 average). However, in late May, the polling data suggested the election was too close to call and we still haven’t had a national debate to hear the presumptive candidates express their policy views to the general public.

Non-establishment candidates, and even establishment candidates, could potentially increase market volatility through increased political and policy uncertainty. We’ve heard many investors voice these concerns this election cycle. Yet, the reality is that the Office of the President is just one third of our government and our system of checks and balances has historically worked fairly well in controlling extreme or unfavorable views.

Investing with Uncertainty
Investors are always dealing with uncertainty. Markets are always going to respond to the day-to-day news cycle. It is how they work. Ironically, investments are one of the few industries where most people don’t like to buy when things are on sale.

Our advice in times of uncertainty is three fold: keep calm, keep a long-term perspective and stay diversified. Keeping a level head when the markets are running wild helps us avoid making knee-jerk decisions that could impair long term results. Keeping a long-term perspective helps us focus on what is important (i.e., our goals) while understanding that market shocks historically happen on a regular basis. Staying diversified helps limit our exposure to regional shocks while moderating our overall portfolio volatility. These strategies have historically benefited investors and we see no reason why they shouldn’t do so going forward.

Past performance is not indicative of future results. U.S. stocks are the S&P 500 Index and non-U.S. stocks are MSCI EAFE Index. All indices are unmanaged and are not available for direct investment.