Political Sentiment and Investor Behavior in the U.S.: How Shifting Perceptions of Leadership Influence Asset Allocation and Market Volatility

In the past two years, the U.S. has experienced a unique confluence of political polarization, economic uncertainty, and market volatility. The 2024 election cycle, marked by historically low trust in political institutions and stark partisan divides, has underscored how public perceptions of leadership can reshape investor behavior and asset allocation. From the sharp decline in Congressional approval to the sector-specific bets made by markets in anticipation of policy shifts, the interplay between politics and finance has never been more dynamic—or consequential.

The Roots of Political Uncertainty

Public sentiment toward U.S. leadership has remained anemic for much of the Biden administration, with Gallup reporting a corrected Congressional approval rating of 23% in June 2025—a staggering decline from 40% earlier in the year. This erosion of trust was compounded by persistent concerns over inflation, cost of living, and institutional legitimacy. By the time the 2024 election approached, Americans were deeply divided: 82% of Democrats expected a recession, while only 44% of Republicans shared that view. Such polarization not only shaped voting behavior but also influenced how investors positioned their portfolios.

For instance, the S&P 500's performance in 2024—up 25%—was driven in part by a stark partisan divide in sector preferences. Defense stocks closely tracked Democratic odds of victory, while energy and materials sectors outperformed as Republican prospects brightened. By October 2024, the “Republican basket” (energy, materials, utilities) had outpaced the “Democratic basket” (tech, infrastructure) by 10%. This pattern reflects how investors, consciously or not, align their bets with perceived policy outcomes.

Election-Driven Volatility and Sector Rotation

The 2024 election amplified market volatility, with the S&P 500's annualized volatility spiking to 39.4% in 2024—a sharp reversal from 2023. This turbulence was fueled by overlapping uncertainties: a tight race between Kamala Harris and Donald Trump, macroeconomic headwinds, and global trade tensions. The Magnificent 7 (Mag 7) tech stocks, which had dominated the market for years, saw their influence wane slightly as investors hedged against potential regulatory shifts under a new administration.

However, the post-election period brought a surprising clarity. After a 3-7% rally in the immediate aftermath of Trump's victory, markets stabilized, with 73% of S&P 500 stocks trading above their 200-day moving averages by late June 2025. This broad-based recovery suggested that the election had acted as a “clearing event,” reducing political uncertainty and allowing investors to focus on fundamentals. Yet risks lingered: the Mag 7's earnings growth began to decelerate, and the Energy sector showed signs of overbought conditions despite flat oil prices.

Policy Uncertainty and the Quality Factor

The incoming administration's policy agenda—ranging from tariffs to antitrust reforms—introduced a new layer of complexity. While markets initially priced in pro-business policies, investors remained wary of potential trade wars and fiscal expansion. The “quality factor,” which historically outperforms during economic downturns, saw mixed results in 2024. High-quality stocks with stable earnings and strong balance sheets underperformed broad market indices but were increasingly seen as hedges against a potential slowdown.

Bond markets also reflected this duality. Despite Fed rate cuts in 2024, long-term yields rose as inflation expectations hardened. Municipal bonds, however, emerged as a haven for high-income investors, with attractive spreads relative to Treasuries. Meanwhile, the U.S. dollar's 7.6% surge in Q4 2024 underscored the appeal of U.S. assets in a post-election world, even as emerging markets faced capital outflows.

Investment Implications: Balancing Optimism and Caution

For investors, the 2024-2025 period offers a masterclass in navigating political sentiment. First, sector rotation remains critical. While tech stocks may face regulatory headwinds, energy and industrials are likely to benefit from pro-growth policies. Second, duration management in fixed income is essential. With the Fed poised to ease in late 2025, short-to-intermediate bonds offer a safer bet than long-duration assets. Third, diversification into alternatives—private credit, real estate, and even Bitcoin—can mitigate risks from market concentration.

Yet the most pressing lesson is the need for caution in a stretched market. The S&P 500's momentum index hit its best year since 1999, and ETF inflows reached two-standard-deviation extremes. Such froth often precedes corrections, particularly if policy debates escalate or global growth falters. Investors should maintain a 4:1 overweight in U.S. equities but avoid overexposure to the Mag 7. Similarly, a 60/40 portfolio, while modestly positive in Q4 2024, should prioritize high-quality bonds and alternative assets to offset equity risks.

Conclusion

The U.S. market's response to the 2024 election highlights a fundamental truth: political sentiment is not just a backdrop for investing—it is a force that shapes asset prices, sector dynamics, and risk profiles. As the new administration begins to implement its agenda, investors must remain agile, balancing optimism about pro-growth policies with caution about overvalued markets. In an era of deep polarization and economic uncertainty, the key to navigating volatility lies not in predicting policy outcomes but in building resilient, diversified portfolios capable of weathering any storm.