Across My Desk: The Schwab Report's special election edition

historical perspective. It's from a special edition of The Schwab Report dated

Oct.8, 2004 and is the work of one of Schwab's market strategists, Ken Tower.

"CAN THE MARKET PREDICT THE PRESIDENTIAL ELECTION?

Ken Tower, chief market strategist, CyberTrader

"In price, there is wisdom," is a famous quote from long-time market analyst

Alan Shaw. The price action of freely traded markets contains information

about the balance between the forces of supply and demand. This underlies

many well known Wall Street adages such as "the trend is your friend" and

"don't fight the tape." Investors are humans, and humans are emotional.

Because voters are also emotional humans, we may apply some of the same tools

technicians use on the stock market to presidential politics, in order to

make an educated guess about who will become the next president.

A HISTORICAL LOOK AT INCUMBENT CANDIDATES:

1. THE INCUMBENT PARTY WINS APPROXIMATELY TWO-THIRDS OF THE TIME.

It is difficult to unseat the incumbent, not necessarily the individual

candidate as much as the party in power. During the last 104 years, there

have been 26 presidential elections. In 16 of those, the party in power

gained re-election; in some, the president was re-elected, while in others a

candidate of the same party was elected.

2. AS THE MARKET FALLS, SO DOES THE INCUMBENT. Of the ten elections that

the incumbent party LOST, six of them coincided with the Dow falling or posting

only a modest gain since the prior election. The most obvious example of

this is Hoover's 1932 crushing defeat by Roosevelt. Hoover won the 1928

election, retaining Republican power in the White House, with the Dow finishing the

month of October 1928 at 252.16. Just prior to election day of 1932, the Dow

had fallen to 61.90, 75 percent lower than it had been when

Hoover was elected.

With the economy in a shambles, it was no wonder the electorate wanted a

change. The decline in the Dow was symptomatic of a decline in the nation's

overall economic well being. It does not require a tremendous decline in the

Dow to trigger an emotional reaction on the part of voters. Americans appear

to have high expectations about growth so it takes only a disappointment to

sink a candidate.

3. WHAT HAVE YOU DONE FOR ME LATELY? The remaining four elections are some

of the closest, most contentious and memorable election campaigns. They are

the elections of 2000, 1992, 1960 and 1952. In each case, the incumbent

party came into the election with the Dow at least 20 percent higher than at the

prior election, which would appear to give them a decided edge. However, in

each case, the challengers won.

In three of these four cases, the candidate running was not the incumbent

President (1992 Bush versus Clinton is the exception). So it appears that

running in the shoes of the incumbent is more difficult than being the

incumbent himself. But the market also has something to say here: It would

appear that voters have a bit of a "what have you done for me lately"

attitude.

In the 1960 election (Nixon versus Kennedy) the change in the Dow for the

year before the election was negative 10.24 percent. As the election approached,

the Dow was over 20 percent above where it had been at the previous election

in 1956, but 10 percent below where it was at the end of October 1959. This

poor performance in the FINAL YEAR ahead of election is also found in the other

three cases where the incumbent party lost despite the Dow's having advanced

strongly over the prior four years.

THE CURRENT ELECTION OUTLOOK:

At present, the Dow is nearly 900 points, or 7.7 percent below the 10,971 at

which it closed at the end of October 2000. We noted earlier that anything

less than a 20 percent advance removed much of the incumbent's advantage.

That 20 percent advance translates into 13,165, so any number below that

points to a competitive election. As for our third component -- market

performance in the year ahead of the election -- the Dow (presently 10,125)

is now just 3.3 percent above its October 2003 close, again eliminating the

incumbent's advantage. And this election indeed appears to be a horse race!

The poor market action, reflecting a troubled period in the economy, has

stripped the incumbent of any "economic breeze" at his back. Of sitting

presidents, only FDR (in the elections of 1936 and 1942) was re-elected with

worse market performance than the president has today.

THE BOTTOM LINE:

With the election hanging in the balance, market action in the next few weeks

prior to the election could prove decisive in swaying those few remaining

undecided voters."