A study by the New York Fed found an eerie correlation between stock performance during the Trump administration’s first term and the introduction of tariffs.
In less than four weeks, President-elect Donald Trump will be sworn in as the 47th president of the United States, becoming the second U.S. leader to serve non-consecutive terms. But Wall Street decided to start the party a little early.
The iconic Dow Jones Industrial Average since Election Day (^DJI 0.91%)benchmark S&P 500 (^GSPC 1.10%)and the Nasdaq Composite, which relies on growth stocks. (^IXIC 1.35%) Both reached new record highs. This is a continuation of the solid gains in Wall Street’s major indexes enjoyed during President Trump’s first term. From January 20, 2017 to January 20, 2021, the Dow Jones, S&P 500, and Nasdaq Composite soared 57%, 70%, and 142%, respectively.
But to quote Wall Street’s favorite caveat: “Past performance is no guarantee of future results.”
Stocks have been strong since Trump was in the Oval Office, but there are concerns that his desire to impose tariffs on day one could weaken American companies and cause a stock market crash. There are concerns. History tells us that this is not out of the realm of possibility.
Former President Donald Trump and President-elect greet each other. Image Source: Official White House Photo: Andrea Hanks.
Analysis: President Trump’s previous tariffs had a negative impact on US stocks
Last month, President-elect Trump announced plans to impose a 25% tariff on imports from immediate neighbors Canada and Mexico, as well as a 35% tariff on imports from China, the world’s second-largest economy. revealed.
The general purpose of tariffs is to make U.S.-made products more price competitive with products brought across the border. It also aims to encourage multinational companies to manufacture goods for the United States within its borders.
However, according to an analysis by Liberty Street Economics, which publishes research by the New York Fed, President Trump’s tariffs have so far had a decisive negative impact on U.S. stocks exposed to the countries targeted by the tariffs. It is said that it was affecting
4 authors of “Do Import Tariffs Protect US Firms?” Try to distinguish between the effects of tariffs on output and inputs. Production duties are additional costs imposed on the final price of goods, such as cars, imported into a country. On the other hand, input tariffs can affect the production costs of the final product (e.g., increase the cost of imported steel). The authors note that rising input tariffs have made it difficult for U.S. manufacturers to compete on price with foreign companies.
The authors also examined the stock market returns of all publicly traded U.S. companies on the days President Trump announced tariffs in 2018 and 2019. They found a clear negative shift in stock prices on the days tariffs were announced, and found that this effect was most pronounced for the following companies: exposed to China.
Additionally, the authors found a correlation between companies that performed poorly on the day of tariff announcements and “actual future outcomes.” Specifically, based on the authors’ calculations, these companies experienced declines in profits, employment, sales, and labor productivity from 2019 to 2021.
In other words, history suggests that tariffs that go into effect on the first day of Donald Trump’s second term could cause the Dow, S&P 500 and Nasdaq Composite to fall.
This may be Wall Street’s bigger concern – and it has nothing to do with President-elect Trump
Unfortunately, history presents a bit of a double whammy for investors. Comparing the historical performance of stocks on tariff announcement dates during the Trump administration’s first term provides a limited data set, but one of Wall Street’s top valuation metrics with 153 years of backtesting is concerning provide a sufficient reason for
Many investors are probably familiar with the price-to-earnings ratio (P/E), which is a publicly traded company’s stock price divided by its earnings per share (EPS) over the past 12 months. The traditional P/E ratio is a fairly effective valuation tool that helps investors determine whether a stock is undervalued or overvalued relative to its peers or the broader market index.
The downside to P/E ratios is that they can easily fluctuate due to shock events. For example, the lockdowns that occurred during the early stages of the COVID-19 pandemic made trailing 12-month EPS relatively useless for most companies for about a year.
This is where the Shiller P/E ratio for the S&P 500, also known as the period-adjusted P/E ratio (CAPE ratio), comes in handy.
S&P 500 Shiller CAPE Ratio data by YCharts.
The Shiller P/E ratio is based on the average inflation-adjusted EPS over the past 10 years. Looking at 10 years of inflation-adjusted earnings data, shock events become moot when evaluating overall stock valuations.
As of Dec. 20’s close, the S&P 500’s Shiller P/E was 37.68, more than double its 153-year average of 17.19. But more concerning is how the stock market has reacted to past instances where the Shiller P/E exceeded 30.
Dating back to January 1871, there have only been six times, including the current one, when the S&P 500’s Shiller P/E reached 30 times during a bull market rally. Each past event was followed by a 20% to 89% decline in the S&P 500, Dow Jones Industrial Average, and Nasdaq Composite Index.
To be clear, the Shiller P/E doesn’t give us any clues about when a stock market decline will begin. Stocks sometimes extended their valuations for several weeks before falling, as they did during the two months before the Great Depression began in 1929. Meanwhile, the Shiller P/E was above 30 for four years before the dot-com bubble burst. . Nevertheless, this historic valuation metric suggests that stocks could fall sharply, and it won’t make much of a difference whichever presidential candidate wins in November.
Image source: Getty Images.
History is also very favorable to long-term investors (regardless of who the president is)
However, depending on the scope of your investment, history can also be a beacon of hope and inspiration.
No matter how much investors want to avoid stock market corrections, bear markets, and crashes, they are ultimately normal and inevitable aspects of the investment cycle. But the important thing to note is that the ups and downs that come with investing are not linear.
For example, Bespoke Investment Group analysts calculated the average calendar-day length of S&P 500 bull and bear markets since the beginning of the Great Depression and found a night-and-day difference between the two.
Meanwhile, the average of the 27 S&P 500 bear markets from September 1929 to June 2023 was just 286 calendar days (about 9.5 months), and the longest bear market was 630 calendar days. On the other side of the coin, a typical S&P 500 bull market lasted 1,011 calendar days over the 94 years studied. Additionally, 14 of the 27 bull markets (when extrapolated to date) have lasted longer than the longest bear market.
^SPX data by YCharts. YCharts S&P 500 return data begins in 1950.
Crestmont Research’s analysis looks further back into stock performance over time and comes to even more encouraging conclusions.
Crestmont calculated the 20-year total return (including dividends) for the S&P 500 since the beginning of the 20th century. Although S&P officially existed until 1923, researchers were able to track the performance of other index components to meet backtesting through 1900. This 20-year hold timeline produced 105 ending periods (1919-2023).
Crestmont’s annually updated data set shows that all 105 of the 20-year periods would have produced a positive total return. Hypothetically speaking, if you bought an S&P 500 index fund just before the start of the Great Depression in 1929 or before Black Monday in 1987 and held the stock for 20 years, you would still have made a profit. Probably.
The Crestmont Research dataset also conclusively shows that the stock market can make patient investors richer, regardless of which political party is in power. No matter how you place the pieces of the political puzzle, the 20-year total return has always been decisively positive.
