October 18, 2004

BY RUSS WILES

With the presidential election barely two weeks off, it's getting tougher for investors to ignore the political impact.

The stock market, marking the uncertainty associated with an especially close race, hasn't done much positive this year. That could prove a problem for President Bush, since incumbents tend to get a lift when stock prices are rising.

Indeed, the lack of an election-year rally is unusual. Stock prices climbed in 14 of the past 15 years when presidents were elected, the exception coming last time, in 2000.

Stocks also tend to rally in the weeks leading up to a vote. Since 1900, the Dow Jones Industrial Average has produced an averaged 6.5 percent gain from the end of the last major political convention to Election Day, reported Merrill Lynch Investment Managers, citing data from Ned Davis Research

Vote your portfolio?

Should investors, especially those in mutual funds, favor one candidate over the other for the sake of their portfolios? In general, the evidence and opinions are mixed.

"I don't think the party in power makes much difference," said Carl Birkelbach of Birkelbach Management Corp. in Chicago. "They tend to offset each other."

David Brady of Brady Investment Counsel in Chicago agrees. "Of the two leading candidates, neither one is too far out there," he said. "I wouldn't be concerned as an investor if either one gets in."

Bob Doll, president and chief investment officer of Merrill Lynch Investment Managers, generally sees Bush as better for stocks and John Kerry the preferred candidate for bonds.

"Bush's policies of reducing capital gains and dividends tax rates clearly favor equity investors, while Kerry's plans would reduce after-tax returns for equities because of his desire to reverse some of the Bush tax cuts," he wrote in a report. "A Kerry presidency also would likely be more active from a regulatory perspective."

Kerry's greater focus on reducing the federal budget deficit could favor investors in bonds and bond mutual funds by lowering long-term inflationary expectations, although it should be noted those expectations are fairly modest now. Perhaps more noticeable, Doll wrote, Kerry could stoke demand for tax-free municipal bonds and bond funds if he carries through with his pledge to roll back some of Bush's tax cuts for high-income Americans.

As for specific industries, Doll wrote, Bush would seem to favor traditional oil producers, pharmaceutical companies, defense contractors and labor-intensive businesses such as restaurants since Kerry probably would push for a higher minimum wage. Meanwhile, alternative-energy companies and generic-drug producers could benefit from a Kerry White House. So might certain manufacturing industries if Kerry implements a more protectionist trade policy.

Brady and Birkelbach also view Republicans as generally favorable for pharmaceutical stocks, although they don't see a Kerry victory as reason to sell.

"For long-term investors, it doesn't really matter," Brady said. "The fundamentals [including an aging population] are good for the health-care industry."

While Bush would seem to be a better bet for investors in stocks and stock funds, Doll cautioned that much also depends on which political party controls the Senate and House. He predicted the Republicans will retain power in both chambers, which could result in political gridlock that prevents either party from getting too ambitious with legislative changes.

"[That] can be a positive environment for financial markets and investors, as was the case in the post-1994 Clinton administration," Doll wrote.

At least it'll be over

Regardless of who wins, investors at some point could become more optimistic simply because the election will be over. Birkelbach senses that an unusually negative political campaign has made investors more pessimistic than they otherwise would be.

"There's a lot of money on the sidelines because of the election," he said. "It won't stay on the sidelines forever."

Brady, who expects reasonably good economic growth next year of around 3 percent, also is modestly optimistic.

"There's always uncertainty with elections," he said. "Removing the uncertainty should be good for the market," he said.

Russ Wiles is a financial writer and columnist for the Arizona Republic.