Midterm Elections: Past and Present
September 21, 2010
With the passing of the Labor Day weekend two weeks ago, you may have noticed a sudden and dramatic increase in political ads on TV and radio. The midterm elections are now less than two months away. The entire House of Representatives (435 seats), 37 Senate seats (34 normally up for re-election plus three special elections to fill the seats vacated two years ago by President Obama, Vice President Biden and Secretary of State Clinton) and 37 state governorships are up for election.
Each midterm election is unique and this current one is no different: For some, it represents a referendum on the policies and legislative agenda pursued by the Obama administration and the Democratic-majority Congress over the past 21 months. For others, it represents a chance to weigh in on the economy, the war in Afghanistan or other factors of primary interest and concern to them. In this Weekly Market Update, we’ll look at past midterm elections in the House of Representatives for insights into what factors help drive their outcomes, and then consider the current election coming on November 2.
Midterm Elections Past
The first table below presents a brief summary of every midterm election in the U.S. House of Representatives from 1934 to 2006. We’ve identified the sitting president, his party and his approval rating based the last available polling information prior to the election. The purpose of doing this (despite the fact that the president is not up for re-election in the midterm elections) is twofold: First, and as noted above, sometimes midterm elections represent referendums on the president’s policies, especially if these have been pursued/implemented through a House of Representatives majority held by his party. Second, popular presidents can have an effect on the outcome of midterm elections through their campaigning efforts, especially in critical “swing” districts where their party’s candidates are in tight races. A key objective of the president for any midterm election is to establish, maintain or strengthen a legislative majority for his party in the House. The Constitution grants the House several exclusive powers including the power to initiate revenue bills, to impeach officials and to elect the president in case of an Electoral College deadlock.
The next three columns in the table below attempt to capture the overall economic environment in the country at the time of the midterm election. We’ve included the rate of inflation as measured by the Consumer Price Index for urban consumers (CPI-U), the national unemployment rate and the annual rate of real economic growth (i.e., excluding inflation) as measured by gross domestic product (or GDP). One thing that has distinguished the electorate in the U.S. relative to other countries is their tendency to focus on “bread and butter” issues (versus purely ideological causes) and vote “with their wallets.” The state of the economy—good or bad, and whether due to a sitting president’s policies or simply inherited—plays a key role in both who votes (e.g. turnout by party—a critical factor especially for midterm elections since overall turnout is generally 10-20% lower than for presidential election years) and how they vote.
The column titled “Other Factors” captures three other factors that can influence midterm elections. First is whether the country is at war. The second is whether the economy is in or has been (in the midterm election year) a recession (“Rec”). The third is whether the sitting president is a lame duck (“LDP”) which can influence his ability or motivation to campaign effectively in midterm elections. Finally, the last two columns show the count of seats held in the House of Representatives by the president’s party prior to the midterm election and how many seats his party gained or lost in the election. [Editor’s Note: A description of the various data sources for this table and calculations used appears at the end of this article.]
In reviewing these data, one thing that stands out is how the president’s party lost seats in the House in 16 of the 19 midterm elections shown from 1934 to 2006. This applies regardless of the party of the president or the state of the economy. The average is 32 seats lost. Even in the three midterm elections where there were gains, they were very modest. Most recently, Clinton (in 1998) and Bush (in 2002) gained five and eight seats, respectively, and it’s interesting to note that in both cases their popularity ratings were very high, there were no economic factors (high inflation or unemployment, low GDP growth) working against them and their party’s total seats in the House were close to parity (206 and 221 respectively). The only other president to enjoy a similar midterm election without any key economic factors weighing against him was Kennedy in 1962. And his Democratic party lost only four seats that year despite holding a large majority of 263 seats.
One thing that does clearly help determine how many seats a president’s party will likely lose in a midterm House election is his approval rating. The average number of House seats lost by the president’s party in midterm elections since 1946 when his personal popularity rating was 55% or higher was only 10 seats (covering eight midterm elections—see table above). However, in the other eight midterm elections where the president’s approval rating was under 55%, the average loss equaled 38 House seats by his party.
The table above also illustrates four instances where there was a change in control for the majority party of the House: 1946, 1954, 1994 and 2006. In all four cases, it was the party of the president losing control of the House; twice for a Republican president (Eisenhower, Bush) and twice for a Democratic president (Truman, Clinton). Truman faced perhaps the strongest economic headwinds with negative economic growth and relatively high inflation. He also had a very low approval rating. On the other hand, Eisenhower lost control despite a high popularity rating due in part to a recession which ran from July 1953 to May 1954. Bush struggled with very low popularity in 2006 in part due to the war in Iraq. As for Clinton, it was not so much a lack of personal popularity (approximately 65%) or any economic factors that led to a loss of control in the House, as perceptions brought on by his legislative agenda for the first two years of his administration from 1992 to 1994.
In the second table below, we’ve carried over some of the data from the first table to illustrate four additional factors: the size of the majority for the party in control of the House prior to the midterm election, how that majority changed (and whether the controlling party changed) as a result of the midterm election, and the total returns of the S&P 500 in both the year of the midterm election and the average of the following two years.
For most Weekly Market Update readers, the first thing that will jump out from this table is the contrast of past performance for the S&P 500 between midterm election years and the subsequent two years following the midterm election. For midterm election years, the average annual return was 10.0% and median annual return was 6.5%. But seven of the 19 years shown had negative returns averaging -11.3% (median return of -8.8%). In contrast, for the two years following each midterm election since 1934, the average annual return was 15.9% and the median annual return was 18.3%. There were only two periods (1939-40 and 2007-08) with a net average negative return. (Keep in mind that past performance does not ensure future results.)
Another thing that is clear in the data from the table above is how Republican majorities in the House of Representatives have been both rare up to 1994 and small in terms of the size of the majority. The median size of a Republican majority (both pre- and post-midterm elections) has 10 seats while the median size of Democratic majorities has been 41 seats. However, since the 1990s, the House been more evenly split (not withstanding the results of the 2008 presidential election when Democrats established a 255-seat majority) and changes in control much more frequent.
In this respect, the House of Representatives reflects a fundamental change in voter behavior patterns which began to emerge in the 1980s. Prior to this time, voters strongly associated themselves with a party (Democrat or Republican) and voted they voted along party lines. But the emergence of independent (or swing) voters who vote according to key issues important to them more than by traditional party loyalty, has led to a large and decisive segment of the population that neither party can count on, especially when economic or other factors disfavor them. The House—as a proportional representative legislative body, along with its two-year election cycle for all seats—is probably the best national barometer we have of the country’s political mood and direction.
The Current Midterm Election
How large is the independent vote? The chart below illustrates that it is both large (about 25% of the electorate) and how it can act as a decisive factor against the relatively equal balance of Republican and Democratic voters. The question mark for independent voters (much more so than a loyal base of either party) is whether they are motivated enough by some issue or debate to go out and vote.
Source: Cook Political Reports and the Wall Street Journal (Sept. 7, 2010)
In the current midterm election, the motivation among independent voters is running high. While much of this is due to concerns about the economy (high unemployment, growing federal budget deficits), some voter motivation is also being driven by a sense that the country has swung too far left politically over the past two years with a Democratic president, a large majority in the House and a supermajority in the Senate. In this respect, many political observers are comparing this midterm election to the one in 1994 which resulted in a Republican takeover of the majority in the House under Newt Gingrich. That election saw the Democrats lose 58 seats from a pre-election majority of 258 seats (close to the 255 seats the party currently holds).
However, the differences from 1994 are large enough to make a close comparison to this midterm election difficult. The largest one is the economy: In 1994, it was relatively healthy with solid GDP growth of over 4%, low inflation and unemployment under 6% (which had been steadily declining with the 1991-92 recession behind us). And despite skepticism regarding some of his initiatives in his first two years in office, Clinton remained a highly popular president with an approval rating of approximately 65%. In contrast, the Democrats currently face the challenges of low GDP growth, high unemployment, a war and a presidential approval rating for Obama of under 55%.
As the chart below illustrates, there are approximately 81 seats in the House “in play” (meaning they could shift control from one party to the other). Of the 81 seats, 73 are currently held by Democrats and eight by Republicans. This year, the number of seats needed to shift the House majority from the Democrats to Republicans (assuming, as the chart shows below, the Republicans have 175 safe seats they won’t lose) is 43. While that is a large number, it could be achieved by capturing five of the six seats currently leaning Republican, one-third of the 30 seats currently leaning Democrat (another 10 seats) and 28 of the 45 seats currently considered a toss-up.
One wild card in the midterm election is the so-called Tea Party movement. While often associated with the Republican Party, they have been active in House primaries by running their own candidates to replace established Republican candidates or even House members. On one hand, their success should energize their base to vote in the November elections. On the other hand, there is a risk involved in running relatively inexperienced populist candidates against more seasoned and professional opposition politicians. But in essence, frustration with entrenched “Washington insiders” is at the core of the Tea Party movement.
Implications for Investors
Looking back at the history of midterm elections and subsequent stock market returns since World War II (1946), there are not the kind of clear distinctions one might expect between (for example) years when the elections result in a Democratic president and Democratic majority in the House versus years when we had a Republican president with a Democratic majority in the House. In the table below, we show the median total returns for the S&P 500 for midterm election years and each of the following two years for the cases listed below:
- All Years: This consists of 16 midterm elections from 1946 to 2006
- Change in House Control Election Years: As noted above, this includes four midterm election years (1946, 1954, 1994 and 2006) when the elections resulted in a change of majority for the House—twice Republican to Democrat and twice Democrat to Republican
- Democratic President/Republican House Terms: There were only three midterm elections which resulted in this outcome—once with Truman in 1946 and twice with Clinton in 1994 and 1998.
- Republican President/Democratic House Terms: Since 1946, this has been the most frequent alignment covering seven midterm elections.
- Democratic President/Democratic House Terms: This covers four midterm elections with the most recent being 1978. If the Democrats are able to maintain their majority in the House this year, 2010 will be the fifth time it has occurred since World War II.
- Republican President/Republican House Term: This happened only once since 1946 so the data here on median returns in the midterm election year and following two years are not medians but simply the S&P 500 total returns for 2002, 2003 and 2004.
What is interesting about the table is that the median returns in the two post midterm election years don’t vary much at all by the various election outcomes for the House or which party controls the White House. On the other hand, it is interesting to note in all cases that median returns for the first year after a midterm election have been higher than those in the (election) year preceding. Additionally, the returns in the second year after the midterm election are not as high as those in the first year following the election.
In the current midterm election, the impact of the House majority might shift to the Republican Party (leading to a split government) depends on whether the two sides (House leadership and the Obama administration) can work together in a bipartisan manner. One of the first items likely to be dealt with will be the federal budget deficit and taxes. The accepted wisdom is that markets prefer the certainty of divided governments (a slower pace of more incremental change based on political compromise). However, the median returns data in the table above looking back 60 years do not provide any strong support for this. A recent model of how a divided government can lead to budgetary compromise is the example of 1994 when a Republican majority was voted into the House. Though the process was at times contentious, this majority was able to work with the Clinton administration to achieve a balanced federal budget by 1998.
However, if a divided government leads to intransigence and gridlock—especially in light of the urgent issues facing our economy—then it will take another two years and the next general election before key issues can be addressed. Either way, it will be the independent /swing voters who play a key role in determining where we go from here.
Data Sources and Details for Two Tables of Past Midterm Elections
Presidential Approval Ratings are from The American Presidency Project. John T. Woolley and Gerhard Peters. Santa Barbara, CA: University of California. They represent the last polling data taken prior to the midterm election. Shaded cells denote approval ratings less than 50%
Consumer Price Index Urban (CPI-U) data for 1934, 1938, 1942 and 1946 are from the Federal Reserve Bank of Minneapolis and reflect annual averages for these years. For 1950 and beyond the CPI-U data are from the Bureau of Labor Statistics and based on seasonally-adjusted rolling annualized prior 12 month CPI-U rates in September of the year shown. Shaded cells denote inflation rates greater than 5%.
Unemployment Rate data for 1934, 1938, 1942 and 1946 are averages for the entire year. For 1950 and beyond, the unemployment rates are based on the rate in September of the year shown. Data source is the U.S. Bureau of Labor Statistics. Shaded cells denote unemployment rates greater than 6%.
Real GDP Growth data for 1934, 1938, 1942 and 1946 are averages for the entire year. For 1950 and beyond, the Real GDP Growth Rate are seasonally-adjusted annualized average rates based on the first, second and third quarters of the midterm election year using 2005 chain-linked dollars. Data source is the U.S. Commerce Department, Bureau of Economic Analysis. Shaded cells denote rates under 2.5%.
Other Factors take into account wars, recessions (Rec) and lame duck presidents (LDP). Recession classification applies if at least part of the year prior to November falls within the official recession start/end dates. Data source for recession start/end dates is the National Bureau of Economic Research.
House Seats Controlled is the count of seats held by the party of the president prior to the midterm elections. Data source is Office of the Clerk, U.S. House of Representatives. Shaded cells indicate when the seat count represents a majority of the House.
House Seats Gained/Lost is the increase or decrease in the number of seats held by the party of the president due to the midterm elections. Data source for House Seats Pre-election, House Seats Post-election and House Seats Gained/Lost is Office of the Clerk, U.S. House of Representatives. Shaded cells indicate a loss of majority in the House.
Size of Majority equals number of House seats held by majority party minus 218 (except for 1958 post-election and 1962 pre-election when 219 was used). Data source is Office of the Clerk, U.S. House of Representatives.
S&P 500 Total Returns source: 1934 to 1966, Aswath Damodoran (New York University) and 1970 to 2006, Standard & Poor's. The S&P 500 returns for the two years after each midterm election are a geometric average of the returns for each of the two years. Data on S&P returns prior to 1957 are based on 233 companies, not 500.
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