Do The Markets Prefer Kerry Or Bush?

Eric Engen has an interesting article explaining how the markets react inversely to the Kerry Presidency. The article states,

Kerry Victory Vs. S&P 500

The accompanying chart plots the trading price of futures contracts for Sen. Kerry's share of votes along with the value of the S&P 500 composite index since March 3, the day after the Super Tuesday primaries. When the expected vote share rises and thus the implied probability of Sen. Kerry winning the election increases, the S&P 500 index tends to decline sharply. The pattern is consistent and significant. Given the negative response of the stock market index to increases in his electoral prospects, this suggests that a Kerry victory, or its inevitability in the run-up to the election, could cause a significant stock market decline. The correlation is apparent even when the lackluster response to Sen. Kerry and the Democratic convention depressed the value of the Kerry futures contract, and the stock market simultaneously rallied.

The stock market is affected by factors other than the upcoming election, and one might argue that the stock market is responding only to economic news and that the correlation of stock prices with the probability of Sen. Kerry's election is a mere coincidence. However, the economic news has been generally upbeat in the first half of 2004 with real GDP expanding at 3.8% clip, real business investment spending growing even faster at a 12.5% annual rate, more than one million new jobs created this year, consumer confidence generally rising, and strong growth in corporate profits. While the data have flagged a little recently, there is no obvious link between economic news releases and the implied probability of a Kerry victory in the Iowa Electronic Market futures prices.

Candidates always claim that their policies will improve economic outcomes if they are elected. Financial market developments have advanced enough that we can now evaluate what the markets think about a candidate's promises. If equity markets had a vote, it seems they would cast it for President Bush.

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