As we come out of the holidays and turn the calendar, it’s worth remembering where we are in the Presidential Cycle.
We’re entering the midterm year – Year 2 of the four-year cycle – and historically, this has been the most challenging stretch for markets.
The weakness doesn’t usually show up right away. More often, it begins toward the end of the first quarter, spills into early Q2, and lingers until markets find their footing again in the fall.
Could this year break the pattern? Of course.
And could it play out exactly like so many midterm years before it? That’s on the table too.
Year 2 of the Presidential Cycle
We’re just wrapping up Year 1 of the Presidential Cycle, the Post-Election Year.
Next comes Year 2, the Midterm Year. After that is Year 3, the Pre-Election Year (2027), and finally Year 4, the Election Year itself (2028).
Thinking about this in four-year chunks can feel abstract, so it helps to ground it in real time.
In 2026, the World Cup comes to the United States. In 2028, we’ll host the Olympics.
A lot happens between now and the next Presidential Election, in the world and in markets.
Below is a chart from Jeff Hirsch, author of the annual Stock Trader’s Almanac, showing seasonal returns for the Dow Jones Industrial Average, the S&P 500, and the Nasdaq Composite across the Presidential Cycle.
The key takeaway is the same one that shows up again and again in the data.
We see relative weakness in Q2 and Q3 of the midterm year, followed by a powerful seasonal tailwind beginning in October:
That October low has historically marked the start of the cycle’s sweet spot, a run that often carries markets through the end of the midterm year and deep into the pre-election year.
Now, does it have to play out this way? Does it need to follow historical averages cleanly and politely?
Of course not.
Markets don’t owe us symmetry, seasonality, or textbook behavior. History isn’t a rulebook. It’s context.
How Do We Know When It’s Here
Seasonality is useful – not because it tells us what must happen, but because it helps us prepare mentally for what could happen.
Just because midterm years (Year 2 of the cycle) have historically been the weakest doesn’t mean this one has to follow suit.
Markets have a long history of humiliating anyone who treats averages like certainties. I’ve learned that lesson the hard way.
So instead of predicting weakness, we let the market tell us if – and when – conditions are changing.
One place to start is beneath the surface.
Are the offensive sectors beginning to roll over?
Technology, Financials, Industrials, and Consumer Discretionary tend to distribute before major market corrections. When leadership starts to crack, it usually shows up there first.
Next, zoom out globally.
Are markets around the world still making new highs? Or are certain countries starting to stall, fail, or break down altogether? And, more importantly, which ones?
That brings us to what my friend Ari Wald, Head of Technical Analysis at Oppenheimer, likes to call “the Culprits.”
Every down cycle has them.
The Culprits are the groups that peak early, lead the market lower, and ultimately suffer some of the largest drawdowns. More often than not, they were leaders during the prior bull market.
And here’s the key point: If you can’t clearly identify the Culprit – the group dragging the market down – odds are you’re not dealing with a serious correction.
Every cycle has its offenders: ARKK stocks in 2022, Financials and Homebuilders in 2008, Technology after 2000.
No Culprit? No real bear market.
No Bear Market Yet
I’m happy to report there’s still no evidence of a down cycle.
The NYSE Composite and Russell 3000 Index just closed at new all-time highs.
The Dow Jones Industrial Average is also at record levels, both price-weighted and equally weighted.
And remember, there are no healthy bull markets without Financials. Those continue to hit new all-time highs across the globe.
Market internals confirm the message.
The NYSE Advance-Decline Line just closed at a new all-time high. Earlier this month, the number of NYSE stocks hitting new 52-week highs reached its strongest reading of the past year.
That’s not what deterioration looks like.
Sector rotation tells the same story.
Every sector in the S&P 500 is trading above its 200-day moving average – firmly in uptrends – with one exception: Consumer Staples. And that’s exactly what you want to see in a healthy bull market.
Staples are historically among the weakest performers when investors are embracing risk.
Looking at Consumer Staples on an equally weighted basis relative to the equally weighted S&P 500 gives us a clean read on defense versus offense.
That ratio just closed at new all-time highs this week:
In other words, defensive stocks are lagging, and that’s bullish.
All the evidence continues to pile up in the same direction: This is still a bull market.
And historically, the environments that look like this are the ones that reward staying invested – and selectively adding exposure – not running for cover.
Will that change eventually? Of course. Trends always do.
And yes, those changes have often shown up during midterm years, which we’re about to enter. But that doesn’t mean you sell stocks just because the calendar flipped.
Everybody’s wrong about that.
This isn’t about predicting a correction. It’s about recognizing one when it actually starts.
Maybe weakness shows up early, like 2022. Maybe it arrives later in the year, like 2018. Maybe it doesn’t come at all, like 2006.
Until the market proves otherwise, the weight of the evidence says the same thing it’s been saying all along: Respect the trend. Stay offensive.
And let price – not the calendar – tell you when the game has changed.
Stay sharp,
JC Parets, CMT
Founder, TrendLabs