How the midterms will affect the stock market

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GOP strategist Ford O’Connell and The Heritage Foundation’s Jessica Anderson weigh in on the key midterm races ahead of Election Day on ‘The Evening Edit.’

In the coming days, voters across the nation will decide which party controls the legislative branch of government and several gubernatorial seats. 

Regardless of who holds onto or gains power from the midterm election, the result will affect investors and the stock market for weeks to come. Moreover, the rising cost of living and persistent inflation may accelerate depending on the volatility of the stock market's reaction. 

On Nov. 8, the midterm elections will put 35 Senate seats, 435 House seats, and 36 gubernatorial seats up to voters. 

Rising interest rates are also putting Americans on edge as fears of a recession continue to grow. However, from a historical perspective, markets have always become volatile, whether better or worse, following an election, but the current vulnerability of America's economy may produce some long-term effects. 

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American flags fly outside the New York Stock Exchange Sept. 23, 2022, in New York. (AP Photo/Mary Altaffer / AP Newsroom)

In recent weeks, the world's most powerful CEOs have expressed concern about the current state of the economy and that continued high interest rates will drive the country toward a recession. The most prominent of these businessmen giving that warning include Amazon's Jeff Bezos, Tesla CEO Elon Musk, Goldman Sachs CEO David Solomon, and JPMorgan CEO Jamie Dimon. 

"These are very, very serious things which, I think, are likely to push the U.S. and the world — I mean, Europe is already in recession — and they’re likely to put the U.S. in some kind of recession six to nine months from now," Dimon said during an interview earlier this month. Dimon also warned that the S&P 500 could decline by up to 20% in the coming month. 

Generally speaking, markets do not react well to surprises or uncertainty. Stocks generally fluctuate before, during and after Election Day. Although, rebounds typically occur, too much volatility may make that much more difficult.  Image 1 of 3

The stock market performance has mostly increased six months after a midterm compared to six months before the election. | Getty Images

By definition, the United States is already in a recession. The most widely used definition of a recession is two straight quarters of falling gross domestic product. The U.S. GDP fell at a 0.9% annualized rate in the second quarter, following a 1.6% decline in the first quarter of 2022. However, not since the midterm election in 1929, has a recession begun during a president's third year in office. To have a rough idea of how election results will affect the stock market, we must evaluate past midterm elections. How has the market been affected historically by midterms?

Historically, an incumbent president's political party has lost seats 13 times in the House and nine times in the Senate over the last six decades in 15 midterm elections, according to CNC Financial Group. Historically, the market has mostly underperformed in the year leading up to the midterm, which would be consistent with the current economic situation in the U.S. Moreover, stocks also outperform 12 months after the midterm with an S&P 500 average of 16.3%, according to Bloomberg. 

In the most recent 2018 midterm, the stock market rallied quickly after the Democrats took back the House while Republicans maintained a majority in the Senate. The Dow Jones Industrial Average climbed by over 250 points the day after the election, which totaled to a 1% increase, while the S&P 500 and Nasdaq also increased by over 1%. Typically, whether a party gains or maintains control of government is the most significant indicator of how well the market will perform. 

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For example, election results from years both Donald Trump and Joe Biden claimed the presidency were followed by an S&P 500 total return of nearly 24% in 2016 and a 40% in 2020. Factors outside the control of party affiliation will determine how the market will react. Do stocks tend to go up or down following midterm elections?

Since 1946, in nearly 90%, or 17 of the last 19 midterms, market performance increased six months after the election compared to the months leading up to it. However, the same results may not be as guaranteed for the upcoming election as 2022's market performance is significantly poorer than prior years, according to Charles Schwab. 

"Post-election outperformance is often driven by the market's expectation of increased government spending from a new Congress," Liz Ann Sonders, Schwab's chief investment strategist, said in a statement. "But an additional infusion of funds seems unlikely this year, given the government's historic levels of spending and stimulus in response to the pandemic." 

In fact, all that money is one contributor to the 40-year high in inflation, and any new spending would likely exacerbate the issue.

Historically, an incumbent president’s political party has lost seats in the House or Senate in a majority of the last 15 midterm elections. (AP Photo/Patrick Semansky, file / AP Newsroom)

"The combination of high inflation, the war in Ukraine and a lingering pandemic has already made this cycle unlike prior midterm years," Sonders added. "With so many other forces at play in the market, I wouldn't put much weight in historical midterm-year performance." 

CLICK HERE TO READ MORE ON FOX BUSINESSIs the stock market closed on Election Day?

The New York Stock Exchange is open Monday through Friday from 9:30 a.m to 4 p.m. Eastern time and closed on certain federal holidays. However, the stock market will remain open during regular hours Election Day Nov. 8.