How do people’s beliefs affect their trading behavior? In a working paper presented by the National Bureau of Economic Research, researchers looked at the 2016 presidential election to find out.
They found that Republicans and Democratic investors responded to President Donald Trump’s widely unexpected election in different ways.
Households that were likely Republican increased their share of equity investments, and as a result increased their beta with the stock market, after the election. Likely Democratic voters pulled money out of the stock market and invested it in bonds and safe securities.
Active trading over the six months following the election, not differences in returns, drove the results, according to the paper, and the relative change in equity shares was more than twice as large among previously active traders — in line with prior research that a large fraction of households show sticky portfolio allocations in their retirement savings.
Researchers found a significant increase in trading volume in their dataset following the election, regardless of political affiliation.
The sample was created from using cutoffs from the 2016 Survey of Consumer Finance.
The paper puts forward evidence that the differences between Republicans and Democrats in trading behavior after November 2016 were not driven by differential effects of the election on the income, risk exposure or wealth of people with different affiliations arising from the real effects of changes in economic policies.
The portfolio changes, they found, were a response to changes in belief. Mainstream Americans who observed a public signal about future U.S. economic policy — Trump’s election — predicted different implications for the economy depending on the model of the world they believed in.
According to the paper, “Stock market movements in response to news are determined by heterogeneous investors that have different models of the economy and so update their beliefs and rebalance differentially in response to events that are common knowledge.”
Barry Ritholtz, chief investment officer of Ritholtz Wealth Management and a Bloomberg Opinion columnist, has long warned investors against letting their political beliefs drive their investments decisions.
“Someone is going to win this election, and whoever that person is will be disliked by about half of the country,” Ritholtz wrote in a column shortly before the election. “So what? It won’t matter to your portfolio unless and until that person makes a horrible mistake, like an expensive, protracted, unnecessary war.
“It bears repeating: If you allow your politics to interfere with your investing, you are likely to be disappointed by both.”
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