By: Mat Lystra, Senior Research Analyst
Entering the fourth quarter of 2016, the markets—like many of us—seemed to tire of riding the latest polling results. After many months of enduring one of the most contentious US presidential elections in history, the US would finally have its answer. Election day on November 8 produced an outcome that was something of a surprise to markets around the world—but the markets' response indicates this was a surprise with plenty of potential upside for US companies. The US equity markets and small cap stocks in particular, responded by posting the largest post-election gains in recent history. Is this post-election bump sustainable? Empirical evidence suggests not, but the new administration is not known for keeping to convention.
As illustrated below, the “Trump Bump” was the highest at 14.3% for the Russell 2000® Index of any presidential election period since its inception in 1979. As we have discussed in an earlier blog, small cap stocks tend to be more sensitive to domestic policy changes since they tend to be more domestically focused than their large cap counterparts. It therefore makes sense that small cap stocks could have an outsized response to the outcome of a US election. By examining the post-election performance by sector, we can get a closer look at what drove the “Trump bump.”
We can see below that the Russell 2000 Index’s financial services and energy sectors experienced the highest returns of this apparent post-election bounce. Financial services finished the fourth quarter with a 17% return, the highest of any sector in the Russell 2000 Index. If we isolate just the November and December time period around the election, we can see that returns across sectors jump and the energy sector rises to the top with a +25.9% return. However, since energy has a relatively small weighting within the Russell 2000 at 3.5%, it was not the largest contributor to performance.
With a weighting of 28.4% in the Russell 2000, the financial services sector was the biggest driver of performance for the quarter. The reaction of the Russell 2000 financial services sector to the new president suggests that the market is anticipating a period of enhanced profitability, particularly for banks. The new administration has frequently stated that it plans to loosen the financial regulations imposed by the Obama administration, arguing that this will allow capital to flow more freely throughout the market.
By almost all measures 2016 was a strong year for the US market. We wrote at the end of 2015, “The 2016 Presidential Election will be entertaining, but probably not hugely impactful on stock market returns over time.” The entertainment value may be debatable, but the short term impact of the “election dividend” seems undeniable. If Trump fulfills his promises to reduce regulations and lower corporate tax rates, perhaps the “Trump bump” won’t be fleeting after all—but for now, those remain campaign promises that are waiting to be met.
For more detail on how small caps performed in the fourth quarter of 2016, request your copy of our most recent Quarterly Small Cap Perspectives Report.
 Binder, A.S. & Watston, M.S. (2013). Presidents and the Economy: A Forensic Investigation. Princeton University, accessed on 2/1/2017
 Presidential election period defined herein as: December month-end total return value / October month-end total return value.
 FTSE Russell blog “Benchmarks and the bully pulpit.”
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