The election effect that lifts markets

On July 25 Churchill flew back to London to await the results of the general election that had been held that month – the first election for 10 years. With war-hero Churchill heading the Conservatives, the party was confident of victory, although some of the more pessimistic forecasters thought their majority might be as low as 30.

The following afternoon the results started coming in and it was soon obvious Labour had won by a landslide. The final result was a Labour majority of 146 seats – the first time Labour had won a majority. The following day the FT Industrial index – a forerunner to the FT Ordinary Share index – promptly fell three points to 115.

Over the next few days the gloom in some quarters continued and the index slumped to 105.9, although gold shares and dollar securities were bought as a hedge against the policies of the incoming socialist government. The Financial Times joined in the outcry with an editorial describing the election as “the most serious reverse since the dark days of 1940” [Source: A History of the London Stock Market 1945-2009 by George G. Blakey.]

‘Nationalisation’ was the bogey word spooking the market – the phrase ‘public ownership’ had appeared many times in the Labour party manifesto.

However, after the shock of a socialist government had sunk in, investors quite liked the idea of receiving compensation for their investments in some really rather dull industries, freeing them to reinvest in some new, more dynamic ventures.

The future looked bright for British industry to exploit the new advances in electronics, radio, television, textiles, chemicals, plastics and pharmaceuticals.

A few months later, by the time of chancellor Hugh Dalton’s first budget, the FT Industrial index had recovered nearly all the ground lost since the election. The FT described the budget as a “tonic for both industry and labour”, and when in December the government announced the nationalisation of 850 coal industry entities, the market shrugged and share prices rose.

The 1945 election obviously took place at an exceptional time, but the way the stockmarket reacted was similar to how other markets have behaved in other general election years. An example can be seen in 1983: the market rose before the election, sold off on the result, but ended the year higher.

There have been 18 elections since the Second World War, and the market has ended the year higher than it started for 12 of those elections. The average return in those 17 election years – in 1974 there were two elections – was 3 per cent.

Hence, historical precedent would suggest the UK market will see a positive return in 2015.

Another election to consider here might be the US presidential election in 2016: the last time the US market fell in a pre-presidential election year was in 1939, and the average return in these years has been 17 per cent. Given the strong correlation between the US and UK markets, this could be another factor suggesting a positive return for 2015.

Both the Conservatives and Labour have won the most seats in nine general elections since 1945. But in the nine years that the Conservatives won the most seats, the market has risen eight times with an average annual return of 10.8 per cent; while for Labour the market only rose in three years and the average annual loss was 5.8 per cent.

Figures show that on average the market has risen two months before an election, with an average return of 0.32 per cent. But after that, the returns in the following three months are all negative, with the second month after the election seeing an average loss of 1.3 per cent.

In 2015 the general election will take place on May 7, in which case history would suggest that the following two-month period up to July 7 will see a weak market. Of course, this period will overlap with the ‘sell in May’ effect, which often sees a weaker market at this time of the year anyway.

In summary, the historical precedent suggests the market will end higher in the election year of 2015 than it starts. Although such forecasts would most likely not have been supported by Winston Churchill, who stated: “I always avoid prophesying beforehand, because it is much better policy to prophesy after the event has taken place.”

Stephen Eckett is author of The UK Stock Market Almanac (Harriman House)