Congressional Cycle Is Bullish (excerpt)

Of course, one of the most concentrated pools of fools is in Washington, DC. This might explain the extraordinary conclusion of a study examining the performance of the S&P 500 by our long-time statistical consultant Jim Marsten. Along with Joe, he designed many of the publications in the Quant Center on our website. I asked Jim to calculate the three-, six-, and 12-month percentage changes following mid-term elections in the S&P 500. After doing so, Jim concludes:

Suppose I told you there is a technical indicator that, once the buy signal was given, has an amazing record--with the S&P 500 up three months later 17 times out of 18 since 1942, up six months later 18 times out of 18, and up 12 months later 18 times out of 18. The only condition this technical indicator has to meet is a particular political-calendar date, i.e., mid-term election day, which happens to be tomorrow. Buying on that day is one of the best technical strategies I have ever seen. One has to go back to Depression-era market losses to find two periods when this indicator did not give consistently positive results. The historical odds are almost 100% in your favor. The average percentage changes are also good since 1942: 8.5% for the three-month periods, 15.0% for six months, and 15.6% for 12 months.

Why has this mid-term cycle been so consistently bullish since 1942? The most likely explanation is that mid-term elections tend to increase gridlock in Washington, DC. While the debt-ceiling political crises of August 2011 and late 2012 suggested that too much gridlock is bearish for stocks, it has been quite bullish historically. Jim and I believe that it might be again after tomorrow. It would be bullish to see that our Founding Fathers’ system of checks and balances, designed to limit the folly of our foolhardy politicians, is still working.

Today's Morning Briefing: In Praise of Folly. (1) Folly speaks. (2) A famous essay. (3) Central banks get top billing today. (4) Doing more of the same including inflating bubbles. (5) Counterfactual praise. (6) From brief meltdown back to melt-up. (7) Japan: From aw-shucks to shock & awe. (8) Draghi’s low-key shock & awe. (9) Fed policy is also market dependent. (10) Biggest fool may be Pouting Putin. (11) Pool of fools in Washington. (12) Mid-term election rally almost a sure thing? (13) Risk On is back on. (14) “Nightcrawler” (+ +). (More for subscribers.)