Journal
REVIEW OF FINANCIAL STUDIES
Volume 29, Issue 12, Pages 3471-3518Publisher
OXFORD UNIV PRESS INC
DOI: 10.1093/rfs/hhw066
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This study shows that shifts in political climate influence stock prices. As the party in power changes, there are systematic changes in the industry-level composition of investor portfolios, which weaken arbitrage forces and generate predictable patterns in industry returns. A trading strategy that attempts to exploit demand-based return predictability generates an annualized risk-adjusted performance of 6% during the 1939 to 2011 period. This evidence of predictability spans 17%-27% of the market and is stronger during periods of political transition. Our demand-based predictability pattern is distinct from cash flow-based predictability identified in the recent literature.
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