We’ve seen a change in the way that elections have influenced markets. The impacts have been deeper and longer lasting than in the past. This is partly due to elections resulting in large policy shifts, especially in the realm of geopolitics. There are flow on effects for trade and multinationals which most, if not all of us, have exposure to.

The US will go to the polls this year to elect a new President. The next Aussie election must be called before, or in, 2025. Same with the United Kingdom. The next couple of years will have three elections that could cause large shifts in policy, causing short-term and long-term impacts on your portfolio.

In markets, this is called ‘event risk’

Event risk is the risk an individual share or the overall share market suffering losses due to unforeseen circumstances. Event risk can impact a single company. For example, technological failures that recently impacted Optus. They can impact a sector, such as banning of marketing for cigarettes. They can also impact whole markets, like the breakout of an international conflict.

Morningstar’s 2024 Outlook report looks at the impact of major global events on equity markets over the short term.

Event risk

The median impact shows that markets still react positively to the majority of events, with the impacts lessening slightly over a year.

This does not stop the markets from being volatile in the lead up to events. Volatility is the enemy of many investors for two reasons. The first, is that it encourages poor investor behaviour. We’ve done research on how investors chase returns, selling out of investments to the detriment of their total returns. The second is the impact on investors who are drawing down on their portfolios, either through dividends or selling positions.

This is why it is particularly important for those in retirement to structure their portfolios, so they are drawing down on liquid assets. We’ve written extensively on bucket portfolios to increase the longevity of retirement portfolios and help protect it from sequencing risk, volatility and longevity risk.

Durability and robustness of portfolios

Robust portfolios can hold up under a variety of different eventualities, including heated election cycles and policy shift changes. There is no way to know for certain what is going to happen next. Rather we can build portfolios that find and protect value over a range of outcomes. Many investors took advantage of the price dislocation in March of 2020, when there was volatility in the market due to uncertainty about Covid. A robust portfolio allows investors to take advantage of opportunities.

After a 22% correction between February 20, 2020 and April 7, 2020, global equity markets rallied tremendously. Despite the massive loss, the Morningstar Global Markets Index managed a 16% return for 2020 in its entirety.

Using techniques to manage portfolio risks

There are no situations that have the same outcomes – there’s not always a strong rally after a market drop like in the case above. Some situations do cause fair values of assets to permanently deteriorate. A recent, extreme example? Russian equities in the wake of the Ukraine Invasion. 

In other instances, it is due to misconceptions about your portfolio. Sometimes it is due to risk not being correctly aligned to your goals or when assets perform and behave differently to how you anticipated.

In the case of the 3 upcoming elections, it is almost impossible to predict the impact on markets, and how much volatility or risk there will be as a result.

Even if the right election outcomes are predicted, it is hard to know how the market will react. It is important to appreciate that we will always come across periods of uncertainty as long-term investors. The best approach to managing this uncertainty is careful portfolio construction and fundamental asset class analysis.

In our 2024 Outlook report, our investment and market specialists believe that political uncertainty will result in short-term volatility. For longer-term investors, short-term volatility matters little but can be an opportunity to take advantage of attractive prices.

Cash has started to provide decent enough returns, with investors building in some white powder into their portfolios. This upcoming volatility may be an opportunity to invest in potentially undervalued assets.

For investors where volatility is more of a concern exposure to long-term, high quality government bonds may be a prudent decision. Political events don’t consistently cause equity market sell-offs, but when they do, we find more often than not that government bonds—particularly long in duration, but at times short-duration bonds as well—provide an offset.

More importantly, for long-term investors, take the opportunity to zoom out on the performance graph. Through all the market drops and rallies, there have been many elections and many policy shifts and changes. The market still trends upwards regardless of these events. Having high quality assets and an investment policy statement (IPS) that can provide clarity to investors in turbulent markets as the media obsesses over three elections.

It is only after these elections that we will understand the true policy direction and impacts on markets. Until then, it is speculation.

You’re able to find other insights from our 2024 Outlook report here: