Tuesday's election results probably won't affect the stock market much, at least not in the short term since the outcome was largely anticipated. But even so, it's worth thinking about the effect divided government could have on the stock market over the next two years.
The statistics on divided government are mixed. The Christian Science Monitor analyzed the performance of stocks between 1975 and 2009 and found that they do best with a Democratic president and a Republican House (+19.5% compared to +4.8% when Democrats control all three branches).
But Sam Stovall, chief investment strategist for Standard & Poor's Equity Research Services, has found that divided government doesn't matter much for the stock market. Using three basic political scenarios, Stovall studied how the S&P 500 ($SPX) did from 1900 to 2010. The scenarios were:
Total unity (one party controlling the House, Senate, and White House)
Partial gridlock (one party controlling both houses of Congress and the other controlling the White House), and
Total gridlock (a divided Congress).
Over those 111 years, the S&P rose at a 6.8% annual rate. Under total unity (67 years in total), the S&P rose at a 7.6% rate; under partial gridlock (32 years), stocks were up 6.8%; and with total gridlock (12 years), stocks were up a mere 2% annually, according to Stovall. Looking at just the post-war period, the pattern is the same. Stovall found stocks rose 10.7% under total unity, 7.6% under partial gridlock, and 3.5% under total gridlock.
So stocks rose in all three scenarios. The only problematic scenario appears to be total gridlock, though even in that situation stocks showed positive growth. Given that heightened intra-party combat is a possible outcome of the 2010 elections, it's worth considering the lower returns associated with total gridlock -- but it hardly seems like a decisive factor.
The White House Effect
If the data on divided government is mixed, the effect of which party holds the White House is clearer. Going back to 1927, the UCLA professors found that the S&P 500 average total return (including dividends) was 14.1% per year under Democratic presidents and 11.8% under Republican presidents.
Here is Forbes' 2004 list of presidents and the S&P's 500 average total return while they were in office:
Bill Clinton (+17.4%)
Gerald Ford (+17.0%)
Harry Truman (+15.6%)
Dwight Eisenhower (+14.9%)
Ronald Reagan (+14.4%)
George H. W. Bush (+14.4%)
John Kennedy (+12.4%)
Jimmy Carter (+11.2%)
Lyndon Johnson (+10.2%)
Richard Nixon (0.6%)
Since then we've had two more presidents. Here's the average annual total returns of the S&P 500 under their presidencies (thanks to figures from S&P's Howard Silverblatt):
George W. Bush (-4.5%)
Barack Obama (so far) (+26.9%)
Simply put, W's stock market was the worst since 1945 while Obama's has been the best. That's something to think about when you contemplate where to invest in light of the election results.