Midterm Market Flows: The Numbers on Political Risk

The current political signal is one of persistent, low-grade turbulence. As of early March, the president's national approval rating stands at 41% favorable, with disapproval at 55%. This yields a net approval of -14, a figure that has shown notable volatility. Last week, the Economist/YouGov poll recorded a record-low net approval of -21, only to see it rebound to -14 this week. This swing of seven points underscores the inherent instability in polling data.

Yet the longer-term trend is clearer. Despite these weekly swings, the three-week rolling average of net job approval has hovered around -17 or -18 for months. The recent decline from September 2025, when favorability was at 40%, to the current 36% according to PRRI data, reflects a steady erosion of support. The key metric is the intensity: a record 88% of those who disapprove do so strongly, indicating a deepening partisan divide.

For now, this political uncertainty is a background noise rather than a direct market catalyst. The market's focus remains firmly on broader economic fundamentals like inflation and growth. While a sustained drop in approval could eventually pressure policy predictability, the current data suggests the political flow is too choppy and too contained within existing partisan lines to drive significant liquidity shifts in the near term.

Historical Market Mechanism: The Midterm Premium

The historical pattern is clear: markets tend to rally after midterm elections settle the political uncertainty. The data shows a 12.4% average return in the 12 months after midterms, a significant outperformance against the long-term norm. This post-election strength is not a random event but a repeatable flow. Academic research confirms a 12.43% annualized equity premium in months following midterms, driven by a measurable drop in political risk.

The mechanism is straightforward. Before the vote, uncertainty spikes, pushing up required risk premia and tightening Treasury spreads as investors demand more compensation for the unknown. After the results, that uncertainty collapses. The economic policy uncertainty indices and partisan conflict index decrease significantly, leading to lower discount rates and a flight to risk assets. This shift is mirrored in investor flows, with retail money moving from safety into equities once the political regime is clearer.

Yet the overall effect is not a guaranteed signal. The pre-election weakness is real, with the S&P 500 averaging just 2.9% over the 12 months before midterms versus its 8.9% historical average. But the pattern is not statistically significant on its own. The market's move is a cyclical response to a temporary reduction in political noise, not a standalone catalyst. The real driver remains economic fundamentals, which the market quickly re-focuses on once the election drama ends.

Catalysts and What to Watch: Specific Market Flows

The primary driver for market flows remains economic fundamentals, not which party controls Congress. While midterm outcomes shape policy agendas, the market's long-term trajectory is dictated by inflation, growth, and corporate earnings. Political noise amplifies volatility around election season, but the underlying economic engine determines the direction.

Two specific policy areas will generate distinct market flows. First, affordability measures targeting mortgage rates, prescription drugs, and credit card interest are likely to pressure financial and pharma stocks. These targeted initiatives could reduce consumer costs but create headwinds for specific sectors, leading to a bifurcated market reaction. Second, robust U.S. defense spending is expected to continue, supporting defense contractors and related tech. This policy focus on strategic resources and military influence provides a clear tailwind for defense stocks.

The key uncertainty is whether a divided Congress forces a policy stalemate. Such a scenario would increase political risk premia, fueling bond volatility and potentially pressuring the dollar. As noted, political uncertainty and required risk premia tend to run higher around midterm elections. If legislative gridlock persists, it could dampen the post-election rally and prolong market choppiness, as investors grapple with an unclear policy path.