When New York billionaire Donald Trump was surprisingly elected President of the United States in 2016, major Stock exchanges around the world immediately reacted to the news. Wall Street was not in session when the first reports of a major election upset were broadcast; however after-hours trading declined sharply that night. Across the Atlantic, European stock markets plummeted, and a similar situation was observed in Tokyo; however, by the time most of the votes were counted the next morning, the overnight losses were reversed, and Wall Street had a bullish trading session.
The Investment lessons from November 2016 underscored an important aspect of financial markets: they are clearly subject to Political sentiment and behavioral economics. The initial tanking of the markets on election night was likely due to a feeling of uncertainty among traders; after all, statistical modeling predicted a landslide victory for Hillary Clinton. The bullish run on Wall Street the next day could be explained by traders feeling relieved that the controversial campaigning had come to an end; moreover, traders were likely “buying on the dip,” which means taking advantage of lower overnight prices.
· Political Feelings and Stock Portfolios
In 2010, economists from the University of Texas and the University of Southern Mississippi published the results of a longitudinal study that looked into how political sentiment and optimism impact investment decisions. One interesting result gleaned from the study is directly related to risk tolerance: if you keep up with local news while your political party holds the White House or a Congressional majority, you are more likely to load up your portfolio with riskier stocks, and you will prefer shares from American companies.
· The Herd Instinct
In times of political instability, global markets tend to react negatively, but these situations involve more than just reasoning. Let’s say your stock portfolio is loaded with shares of major oil companies; if you learn about a government corruption scandal in Saudi Arabia, you will probably think about selling some of these stocks and reducing your risk, and you will hardly be the only one doing so. Even if political analysts determine the scandal to be nothing to worry about, institutional investors may see an opportunity to take short positions, and seasoned traders will do the same. This is known as the “herd instinct;” not everyone will believe that the scandal will interfere with oil production, but they will certainly follow the actions of the majority.
· What Should You Do?
But knowing what how the political situation affects your investments doesn’t mean you know how to act. It does give you the tools to anticipate changes and can help you figure out what you need to do. It is important to establish your goals for your investments so that you know what you should do if there is another upheaval like the one in November of 2016. Once you know what your goals are, make sure you keep up on the news at all levels, from local to international. Being aware of what is going on can inform your financial decisions and help you figure out the best time to buy or sell your investments.