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Does politics influence financial markets?

It has been hard to ignore the number of significant political events that have occurred recently and those that will follow in the remainder of 2017. There is also no doubting that we watch elections with close interest to see how they will shape the world we live in.

Time to read: 3 mins

From an investor™s perspective, how have political events shaped and could they shape financial markets over the next 12 months or more? The challenge is trying to define which events are significant and to potentially determine if financial markets actually care.

Unless they are extreme, Politicians like to think they are responsible for any positive stock market rallies but they rarely are. They also look to markets for validation of their ideas. But with the implications of political decisions often taking years to see results, by which time someone else is potentially in power, are we getting too preoccupied with elections and their relevance to investing?

As we look ahead to our own election and the on-going political events unfolding in Europe, we should look back-wards at the circumstances around President Trump™s election in November 2016 and the Brexit vote. Have these events shaped (or not shaped) financial markets and what can this tell us about future elections and what they might mean for us?

On 23 June 2016 the UK held a referendum on whether it should remain in the EU or exit. Polling suggested the œstay vote would win and this expectation was solidly built into market pricing. The degree to which the outcome was priced into the markets was quickly demonstrated in the initial reaction to the result as, within hours, the S&P 500 index fell 6.50%. It would however, quickly rebound as the result was analysed and determined to be an over-reaction. This was a clear example of how Wall Street reacts to surprises!

Similarly, in the lead up the US election, a Donald Trump presidency was a prospect that no one took seriously. The world generally assumed he would be unelectable and he would have no idea how to handle a crisis, his trade policies would hurt US business, lead to inflation, and his views on debt came straight from the Trump empire playbook and lacked a global perspective. Who would vote for him? But what™s happened since? Record highs in the S&P 500 have occurred despite all those concerns continuing to exist. The public wanted change and fundamentally the US and Europe are doing OK. Growth is slow but steady. Unemployment is at historically low levels, and the impact of the Trump presidency is weakened by his divisive talk and political naivety, so change may be limited.

Financial markets dislike uncertainty and political uncertainty is shown to negatively influence markets. The reaction to proposed political events is usually based on speculation and is largely influenced by the narrative and spin provided by the parties involved, as filtered through the media.

So, is there a place for political considerations in the investment process? Logic tells us no; mixing political ideology with the investment process doesn™t help predict markets. When it comes to politics, investors need to vote at the ballot box and not with their portfolios. The two areas that need to be avoided to enhance investment outcomes are short-term thinking, which rarely assists investors in reaching their long-term goals, and allowing emotion to be a part of the investment process.

In summary, don™t let political considerations determine your investment plans, commit to a long-term, fully diversified investment strategy, and avoid the temptation to make frequent transactions.

Staples Rodway Asset Management is a boutique investment advisory service that specialises in providing personalised and impartial investment solutions for individuals and trusts. An adviser can be contacted at enquiries@sraminvest.co.nz or on 0508 220 022.


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