Target Allocation Monthly: mid markets in midterm years

It’s still early, but we’re already getting a lot of questions about the midterms and what they could mean for markets. Historically, the second year of a presidency has paired solid economic momentum with weaker equity returns and some of the largest intra-year drawdowns, and that pattern argues for expecting volatility rather than fearing it. We’re not bearish, but we do anticipate periods of anxiety as markets reprice policy risk around rates, tariffs, geopolitics, and the possibility of divided government (voters have stripped power from the incumbent party in nine of the last ten US federal elections). What may be different this cycle however is the size of the cushion underneath the economy. Nearly a trillion dollars of fiscal, monetary, and deregulatory stimulus is still in the pipeline. Rate cuts are beginning to work through the system, the Fed balance sheet is expanding, and fiscal support is approaching 1% of GDP. That backdrop doesn’t eliminate risk, but it can help markets absorb shocks. History is never a playbook, but midterm volatility has rewarded patience and discipline (the S&P500 has not declined in the 12 months following a midterm election since the 1938). Given this setup, we believe staying invested while leaning into dislocations and being selective could matter more than trying to sidestep every potential drawdown.

Sources: Strategas, Bloomberg, Reuters, as of 1/21/2026. In 2012, President Obama was re-elected, Democrats kept the Senate, and Republicans kept the House, preserving the status quo. The estimated drag of quantitative tightening (QT), tariffs, and fiscal policy was approximately $548B in 2025. By 2026, the economic impulse is expected to turn positive as monetary policy easing, tax relief, and deregulation gain traction, potentially converting prior headwinds into a material growth tailwind of an estimated $650B, an estimated net swing of over $1.1T. The net change in fiscal policy stimulus (tax cuts for consumers and businesses net of total tax revenues) is estimated to be over $350B (or approximately 1% of 2025 US GDP). US large cap stocks’ post-midterm election 12-month total returns use the S&P500 since 1957 and Ibbostson SBBIfor 1926-1957. Past performance does not indicate future results.

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