Will stocks crash if Joe Biden wins and Democrats control Congress? Here’s what history says about stock market returns when Democrats win

In just over six months, Americans from across the country will go to the polls or mail in their ballots to determine who will lead our great country for the next four years.

While there are numerous aspects to the presidency, and to lawmaking in general, that have nothing to do with Wall Street and investing, fiscal policywhich are usually drafted by Congress and signed into law by the President, Doing impact the health of the U.S. economy and America’s bottom line.

As of the closing bell on April 24, incumbent Joe Biden had gained 3,237 delegates during the presidential primaries. That is far more than the 1,968 delegates needed to win the Democratic Party’s presumptive nomination for president. Since taking office on January 20, 2021, Biden has overseen a 23% gain in the iconic Dow Jones Industrial Average (DJINDICES: ^DJI)32% in the benchmark S&P500 (SNPINDEX: ^GSPC)and 17% in growth-driven countries Nasdaq Composite (NASDAQINDEX: ^IXIC).

Like his predecessor, Donald Trump, Biden worked with a unified Congress controlled by his party during his first two years in the Oval Office, and with a divided Congress in the second half of his presidency (Republicans took control of the House of Representatives about). Representatives on January 3, 2023).

But could a second term for Joe Biden, combined with Democrats taking control of both houses of Congress, set stock prices up for a massive crash? Let’s dig into the challenges that Biden and a Democratic Congress would face, and let history be the ultimate judge of things.

Will stocks crash if Joe Biden wins in November and Democrats control Congress?

While it’s impossible to predict exactly when a major stock market downturn will occur, the impetus for a “crash” would likely come down to certain policy proposals from Biden and his colleagues, as well as select economic headwinds, which could be tricky no matter who is elected president in November.

Two policy proposals in particular could give Wall Street and investors reason to run for the proverbial hills. For starters, President Biden noted during his State of the Union address in March that he wants to quadruple the stock buyback tax to 4%. Companies buying back their own shares have helped increase their earnings per share (EPS), which in turn has played a key role in boosting valuations. Quadrupling the existing buyback tax would make share buybacks less attractive and negatively impact earnings multiples, at a time when shares are quite pricey.

The other proposal that could topple the Dow, S&P 500 and Nasdaq Composite from their respective pedestals is raising the maximum marginal corporate tax rate from 21% to 28%, as well as the alternative minimum corporate tax rate from 15% to 21%. . Not only would companies be discouraged from buying back their shares, but they would also have less disposable income to work with if corporate tax rates rose.

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But as mentioned, the Democratic Party’s policy proposals are not the only concern. There are two economic headwinds that could spell trouble for Wall Street regardless of whether Biden or Trump wins in November.

The first problem is that stocks are historically pricey. As of the closing bell on April 24, the S&P 500’s Shiller price-to-earnings (PE) ratio (also known as the cyclically adjusted price-to-earnings ratio, or CAPE ratio) was well above its historical norm.

While the traditional price-to-earnings ratio divides a company’s stock price into its trailing twelve-month earnings per share, the Shiller price-to-earnings ratio is based on average inflation-adjusted earnings over the past ten years. By removing the one-year glitches that could distort the price-to-earnings ratio, the Shiller price-to-earnings ratio becomes a potentially more attractive valuation tool in the long term.

On April 24, the S&P 500’s Shiller P/E was 33.67, which is almost double the 17.11 average when backtested to 1871.

The biggest concern is that in 153 years, there have only been six instances of the Shiller P/E exceeding 30 during a bull market. After the previous five cases, the S&P 500 or the Dow Jones Industrial Average lost 20% to 89% of their respective value. Whenever valuations are extended, it ultimately results in a major pullback for stocks.

The other catalyst for a potential stock market crash is the historic decline in the US M2 money supply. The M2 money supply accounts for everything in M1 – cash and coins in circulation, along with demand deposits in a checking account – and adds savings accounts, money market accounts, and certificates of deposit (CDs) under $100,000.

Normally, there is little reason to pay much attention to M2 because the US economy is growing with such consistency over long periods of time. But after peaking in March 2022, the M2 money supply has fallen by almost 4.4%. It is the first time since the Great Depression that we have witnessed a year-on-year decline in M2 of at least 2%.

Based on data collected last year by Nick Gerli, CEO of Reventure Consulting, there have been only five instances since 1870 where M2 fell by at least 2% from the previous year. The four previous times (1878, 1893, 1921 and 1931-1933) all coincided with deflationary depressions and high unemployment.

The caveat to the above is that the M2 money supply has grown at the fastest pace ever during the COVID-19 pandemic. The decline we are seeing now could simply be a return to the mean. Nevertheless, having less capital available for transactions has historically been a recipe for a recession in the US.

This combination of policy proposals and economic headwinds could put stocks in trouble if Democrats control Congress and the White House.

This is what history says happens when Democrats have a unified government

With a better understanding of the potential challenges ahead if President Biden wins in November and Democrats take control of Congress, let’s take a closer look at what history has to say.

Based on a study by CFRA Research, there is no political scenario that has produced a negative average annual return since 1945. No matter how the pieces of the puzzle are arranged, patient investors have always come out on top.

According to CFRA Research, between December 31, 1944 and December 31, 2021, there were 23 years in which Democrats controlled Congress and the White House. In those 23 years, the benchmark S&P 500 achieved an average return of 10.5%. While this is slightly below the average annual return of 12.9% under a Republican unified government, it is still an above-average return.

Retirement Researcher went one step further and examined the average annual return of the S&P 500 from 1926 through 2023 across different political situations. The 36 years of unified government under the Democrats in this nearly century-long timeline resulted in an average annual return of 14.01%!

The point here is simple: the stock market tends to deliver long-term results for patient shareholders, regardless of which political party is in power.

The reason stocks have outperformed all other asset classes over the past century is because they benefit from long-winded economic expansions.

On the one hand, recessions are an inevitable part of the economic cycle. Since the end of World War II, the U.S. economy has fought its way through a dozen recessions. But did you know that nine of these recessions resolved in less than a year, while none of the remaining three lasted longer than eighteen months?

On the other side of the coin, periods of economic growth often last for several years. Two of the expansions since World War II lasted longer than ten years. It’s these long-term expansions that really allow corporate profits to grow.

Perhaps the most compelling data set on the power of patience and perspective was offered by the analysts at Bespoke Investment Group.

Last June, Bespoke calculated the length of every bull and bear market in the S&P 500, dating back to the start of the Great Depression in September 1929. The data showed that while the average bear market in the S&P 500 lasted 286 calendar days, the typical bull market over a 94-year period, it lasted 1,011 calendar days, or about 3.5 times as long.

Furthermore, there have been thirteen bull markets in the S&P 500 since September 1929, which have lasted longer than the longest bear market in the broad index.

Patience and perspective are a way to reward investors, regardless of which political party is in power. If Joe Biden wins in November and Democrats control Congress, investors with a long-term mindset should do well.

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Sean Williams has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has one disclosure policy.

Will stocks crash if Joe Biden wins and Democrats control Congress? Here’s what history says about stock market returns when Democrats win was originally published by The Motley Fool