November was a busy month for Wall Street. It represented the heart of earnings season for many of America’s most influential companies, and featured key economic reports that will shape the Fed’s monetary policy in the coming quarters.
But perhaps most importantly, November provided a solution to the most important question of all: “Who will lead America forward over the next four years?” Shortly after the polls closed on election night, the Associated Press declared former President Donald Trump the new president-elect.
The stock market soared during Trump’s first term in the White House, driving mature stocks Dow Jones Industrial Average (DJINDICES: ^DJI)widely supported S&P500 (SNPINDEX: ^GSPC)and innovation-driven Nasdaq Composite (NASDAQINDEX: ^IXIC) increasing by 57%, 70% and 142% respectively.
But to quote Wall Street’s favorite disclaimer: “Past performance is no guarantee of future results.”
With the Dow Jones, S&P 500 and Nasdaq Composite surging into uncharted territory since Election Day, it raises questions about the validity of the current bull market rally and whether a stock market crash is in store for President-elect Trump.
As is the case after any major election, there are more questions than answers when it comes to what policies the Trump administration might put into practice, and what impact those policies might have on the U.S. economy and/or stock market. . While having a unified government — Republicans hold a majority of seats in both houses of Congress — should on paper help Trump pass major pieces of legislation, the Republican majority in the House of Representatives is small enough that this is far from of a guarantee.
Perhaps the biggest policy concern concerns newly elected President Trump’s desire to impose tariffs on goods imported into the US. He recently laid out a plan to impose 25% tariffs on goods from Canada and Mexico on day one, as well as 35% on imports. from China, the world’s second largest economy in terms of gross domestic product (GDP).
The purpose of tariffs is to encourage domestic production and to make home-made goods price-competitive with products brought in from overseas markets. But tariffs carry the risk of raising prices for businesses and consumers and reigniting prevailing inflation. With the country’s central bank currently in a rate easing cycle, this could position the US economy for a period of stagflation if prevailing inflation were to meaningfully pick up again.
There is also some concern about the national debt. With the exception of the period 1998 through 2001, the federal government has spent more than it took in every year since 1970. The rate at which the national debt is rising is not sustainable in the long term.
While Republicans have traditionally looked for ways to reduce federal spending, Trump’s plan also aims to cut corporate and/or personal tax rates. While an even lower corporate tax rate would likely encourage stock buybacks, there is a risk that the federal deficit will increase further.
But instead of focusing on the what-ifs? Let’s take a closer look at what history has to tell us about the likelihood of a stock market crash taking shape during Trump’s second term.
While there is no definitive measurement or forecasting tool that can predict significant short-term movements in the Dow, S&P 500 and Nasdaq Composite with 100% accuracy, there are a number of correlative events and data points that very strong correlated with major moves higher or lower in the broader market throughout history. Some of these numbers suggest that a short-lived stock market crash is possible with Donald Trump at the helm.
Before I go any further, I want to make it clear that these predictions have nothing to do with Trump winning the November election. If Democratic Party presidential candidate Kamala Harris had won, we would be having the exact same discussion, with the same historical data points and parameters.
With the above, Donald Trump inherits one of the most expensive stock markets in history – and that’s a big problem.
When the closing bell rang on December 6, the S&P 500’s Shiller price-to-earnings ratio (P/E), also known as the cyclically adjusted price-to-earnings ratio (CAPE Ratio), stood at 38.89. This is more than double the average multiple of 17.17 dating from early 1871.
The bigger concern, however, is what happened before when stock valuations soared. The reading of 38.89 is the third highest during an ongoing bull market that has lasted 153 years. The only two times Wall Street was more expensive – prior to the dot-com bubble (Shiller price-to-earnings ratio of 44.19 in December 1999) and in late 2021/early 2022 (the Shiller price-to-earnings ratio briefly reached 40) – led to eye-popping declines in the most important indexes.
After the peak of the dot-com bubble, the S&P 500 and Nasdaq Composite gave back 49% and 78% of their respective values. Meanwhile, the 2022 bear market has shaved more than 20% of the Dow Jones, S&P 500, and Nasdaq Composite off their respective lows.
The so-called ‘Buffett Indicator’, named after Warren Buffett’s then favorite valuation tool from 2001, is also at a record high. This valuation measure divides the cumulative market capitalization of publicly traded companies into U.S. GDP. Since 1970, the Buffett Indicator has averaged a ratio of 85% – that is, the total value of public companies equals approximately 85% of the value of US GDP. Last week the Buffett Indicator was above 208%.
Based on historical measures, it appears that the stock market is headed for a short but significant correction, if not a crash, at some point in the not-too-distant future.
But the beauty of history is that the pendulum swings both ways. Even though some valuation metrics portend trouble for Wall Street and suggest that Trump will oversee significant declines in the Dow Jones, S&P 500 and Nasdaq Composite during his time in office, a broader view tells a very different story.
In June 2023, Bespoke Investment Group analysts posted a data set to social media platform there have been 27 separate bear and bull markets over a 94-year period (through June 2023).
Bespoke’s data set shows that the average bear market in the S&P 500 lasts just 286 calendar days, or about 9.5 months. Additionally, seven of the 27 bear markets bottomed in 101 or fewer days.
By comparison, the typical S&P 500 bull market has lasted 1,011 calendar days, which is about 3.5 times longer than the average S&P 500 bear market. Furthermore, more than half (14 out of 27) of bull markets have lasted longer than the longest bear market (630 calendar days). By simply being patient, investors have been able to grow their Wall Street wealth over time.
To add, Wall Street has historically done very well when Republicans controlled the White House and both houses of Congress. From 1926 through 2023, there have been thirteen years of a unified Republican government, and the S&P 500 has averaged a solid annual return of 14.52% during those years, based on data from Retirement Researcher.
Frankly, the stock market is doing well no matter how you arrange the political puzzle pieces, with positive average annual returns in every scenario. But with the exception of a Democratic president and a divided Congress, a unified Republican government has achieved the highest average annual returns in nearly a century.
Even if a short-lived crash occurs during new President Trump’s second term, history suggests this will be a phenomenal opportunity for patient investors.
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Sean Williams has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
Will the stock market crash under newly-elected President Donald Trump? This is what history has to say. was originally published by The Motley Fool
