Smart Investing Moves in a Mid-term Election Year

PHOTO: A staffer sets up signs before the start of a press conference with the Senate Democratic Caucus on the Capitol steps, Oct. 9, 2013.

The stock market will likely be robust again this year, but with some key differences from 2013. If history is any guide, uncertainty from the mid-term (mid-presidential term) congressional election will create volatility that follows a familiar pattern.

While stocks are widely expected to perform well in 2014 measured by Dow Jones Industrial Average, you should strap in for what will probably be an up-and-down ride this year. But don’t be resigned to the role of a passive, white-knuckled passenger. There are ways to profit from the roller coaster.

In a typical year the market rallies through April, takes a vacation from May to about November (as the saying goes, many investors sell in May and go away), and then finishes off the year with rallies in November and December.

Mid-term election years tend to be different. In the typical mid-term year since World War II, there has been a weak January (with an average 3 percent drop), followed by a spring spurt with a rally through the end of April. Then there’s typically a rough summer and September that erases gains. Once the outcomes of the November election become more predictable, the market tends to kick into gear again in October, advancing to finish the year with decent gains.

Consistent with this pattern, this year we had the January pullback. Next, expect the market to warm up with the weather, with at least one rally by June, followed by a choppy summer and a great fourth quarter.

Historically, the party not in the White House has tended to outperform the sitting president’s party in mid-term elections. Low approval ratings for President Obama may make it hard for the Democrats to hold on to some of their seats. Virtually all political experts predict that the Republicans will keep control of the House, and some have outlined electoral scenarios that would give the GOP a majority in the Senate.

Of course, at this point, the outcome of the November election is anybody’s guess. Yet there are ways to position your portfolio for the outcome without taking a lot of risk. And as far as mid-term election-year volatility is concerned, there are ways to profit from history’s repeating itself.

Here are a few moves to consider:

• Anticipate industrial momentum. Republican gains in Congress would be expected to result in a more business-friendly posture toward U.S. corporations, potentially aiding domestic heavy-industrial stocks, which are already benefiting from a sharp uptrend in U.S. manufacturing. Says Schwab investment strategist Liz Ann Sonders, “We are at an inflection point. For the first time in post–World War II history, U.S. manufacturing is up three years in a row.”

If a more business-friendly Congress increases this momentum, earnings of small- and mid-cap companies in this category (which have more growth potential than larger, mature corporations) would probably increase, delivering gains to investors in value funds and exchange-traded funds (ETFs) in this space. One mutual fund that seeks to gain from this trend is American Industrial Renaissance Trust, offered by First Trust.

Even without the benefits of a more Republican Congress, however, industrial gains will probably continue from existing momentum.

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