Divided Government and Stock Returns

Abstract

We document that unified US governments (i.e. where the same party controls both the Presidency and both houses of Congress) are associated with higher annual excess and real stock returns than divided US governments, controlling for the party of the President. For the value-weighted portfolio the difference is 9.95% and for the equal-weighted 18.37%. These results are statistically and economically significant, robust in subsamples and robust to a Democrat president (see Santa-Clara and Valkanov (2003)). Differences in volatility fail to explain these differences in average returns, as they go in the opposite direction. Similar results are obtained for real GDP growth rates (see also Blinder and Watson (2016)). In particular, average annual real GDP growth rates for unified and divided governments are 3.70% and 2.34% respectively per year. Analysis of close elections as quasi-random assignments of either Democrat Presidencies or Unified governments implies a strong and statistically significant causal role for Unified governments on GDP growth, 8.19% higher, and a massive 54.7% excess stock market return.

Keywords: Unified Government, Presidential Puzzle, Stock Returns, Growth.

JEL Classification: D72, E02, E32, E65, N12, N42