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Sector Effects During Elections

Highlights

“When we got into office, the thing that surprised me most was to find that things were just as bad as we'd been saying they were.” - John F. Kennedy

EXECUTIVE SUMMARY

The value of stock selection skill rises when dispersion is high; a larger gap between winners and losers means that active equity managers have a better chance to display their selection abilities.1  This logic also applies to active managers operating at a higher level of aggregation, for example by expressing tactical market views through sector rotation. The importance of sectors tends to be greater than average during the Novembers when U.S. federal (and especially presidential) elections take place. Sector allocation decisions can add (or subtract) greater value in these months.  British and Canadian data are consistent with the U.S. results.

BACKGROUND

Dispersion, or the index-weighted standard deviation of returns, gives us a convenient way to measure the potential benefit of active decisions.2  Successful active managers—be they stock pickers, sector rotators, or factor investors—can add more value when dispersion is high than when it is low.3  Dispersion also provides a useful framework for understanding the importance of sectors in generating returns.

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