How investors can take advantage of a quirky midterm election cycle

By Isabel Wang

Stocks tend to struggle during midterm election years - but 2026 could be a buying opportunity

Midterm elections set up a tougher test for stocks in 2026.

If 2025 has taught investors anything, it's that markets can take a punch and keep moving higher - no matter what. Despite a year rattled by seemingly endless policy whiplash ever since Donald Trump's return to the White House, U.S. stocks remain on track for a surprisingly strong finish.

Now, investors are turning their attention to 2026 - a midterm election year in this presidential cycle. And midterm years are not exactly known for smooth sailing.

Historically, stock-market performance in midterm election years, or the second year of a presidential term, tends to be the weakest in a four-year presidential term cycle. Since 1948, the S&P 500 SPX has delivered an average gain of just 4.6% in midterm election years, posting positive returns only 58% of the time. By contrast, pre-election years, or the third year of a president's term, have historically been the strongest of these four-year cycles, with average gains of roughly 17.2%, according to data compiled by Ned Davis Research.

But this upcoming midterm year may not follow the script.

The midterm election year of a president's second term has tended to be more favorable for stocks, noted Jeffrey Hirsch, CEO at Hirsch Holdings and editor-in-chief of the Stock Trader's Almanac.

Things tend to look slightly better during the midterm year of a president's second term. The sixth year of a presidential administration, or the midterm year of a president's second term, has registered average annual gains of roughly 8% to 12% for the S&P 500 dating back to 1949, according to Hirsch, who has spent decades tracking and refining market seasonality and historical trends. Trump's second term began in January, with him becoming the first U.S. president since Grover Cleveland to serve two nonconsecutive terms.

That range also underpins Hirsch's base-case outlook for 2026: He sees inflation concerns that "linger but do not grow," Trump's policy changes delivering "mixed yet positive results," a new Fed chair having a "seamless transition" and the labor market remaining "reasonably stable" while the AI trade rumbles on, he told MarketWatch in a phone interview.

To be sure, many of these same forces have helped drive the market higher this year, as investors have managed to climb what some, including Fundstrat's Tom Lee, have characterized as a "wall of worry."

Investors have spent much of this year worrying whether Trump's sweeping and constantly shifting tariff policies could trigger a global trade war, stoke inflation or tip the world's largest economy into recession. However, those fears have yet to fully materialize. Aside from a brief bout of stock-market volatility in April after Trump's self-proclaimed "liberation day" tariff announcement, markets have shrugged off most of these concerns - although investors are still awaiting the Supreme Court's ruling on whether most of the tariffs will stand.

See: Here's what has to happen for the Supreme Court to rule on Trump's tariffs this year

In the view of Hirsch, the sharp selloff in April actually brought forward much of the stock-market weakness usually seen in a midterm election year, while other Trump policies remain a boost for the stock market - with deregulation and tax reductions proving a counterweight to the tariff-driven volatility on Wall Street.

A dip-buying opportunity in 2026?

History also suggests that the period leading up to midterm elections often presents a potential buying opportunity for stocks.

Since 1934, the S&P 500 has declined about 21% from its peak to trough ahead of or around midterm elections. "The markets usually have a pretty decent correction that starts within 12 months prior to the midterm election date, and stocks usually bottom ahead of it," said Sean Clark, CIO at Clark Capital Management Group.

The silver lining is that any volatility ahead of the 2026 election should set the stage for a strong rally afterward - with average gains of nearly 46% from the midterm low in year two to the peak in year three of a presidential cycle.

"So there's going to be some opportunity to add a lot of alpha on the way down, and then potentially a lot of reward on the way back up," Clark told MarketWatch in a phone interview on Wednesday.

Wall Street's top strategists now largely expect U.S. stocks could post yet another strong year in 2026, as the next phase of the bull market may still have room to run. Their estimates place Wall Street's median year-end target for the S&P 500 at 7,500 - an increase of more than 10% from Thursday's levels above 6,800, according to a recent MarketWatch survey of at least 14 major investment banks and research firms.

Many point to expectations for robust earnings growth, a surge in AI-related capital expenditures and fiscal support - including from Trump's One Big Beautiful Bill Act - as reasons why the market can continue to climb in 2026. These same strategists also brushed off concerns about lofty AI valuations and the possibility of a tech bubble, viewing these as temporary volatility rather than a fundamental threat to the broader stock market.

But others see things differently, as some strategists worry that stretched valuations in megacap tech stocks, lingering inflation concerns and uncertainty around the next Fed chair and the central bank's independence could limit gains and make markets more vulnerable to sudden setbacks.

Tom Bruce, macroeconomic investment strategist at Tanglewood, said AI-related stocks may be a good investment in the long run, but there could be some "irrational exuberance" over the short term, which is how 2025 has played out in the sector.

"I've long been concerned that AI could go into a bubble," Bruce told MarketWatch by phone on Wednesday. "It's not because it lacks merit, but in previous instances when you had a market bubble, they tend to originate from this new technology that you aren't sure how to value. And that makes a higher prime candidate for it, regardless of its long-term potential."

See: How emerging-market stocks can keep trouncing the S&P 500

U.S. stocks were higher on Thursday afternoon after the November consumer-price index report pointed to cooling inflation in the economy. For the year, the S&P 500 has advanced over 15%, while the Dow Jones Industrial Average DJIA was up nearly 13% and the Nasdaq Composite COMP has surged 19.5% so far in 2025, according to FactSet data.

-Isabel Wang

This content was created by MarketWatch, which is operated by Dow Jones & Co. MarketWatch is published independently from Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

12-18-25 1535ET