The impact of politics and economic policy uncertainty on anomaly-based investment strategies

Abstract

PurposeThe purpose of this paper is to explore the overlooked relationship between politics and the performance of anomaly-based investment strategies.Design/methodology/approachMonthly long-short portfolios are formed based on relative mispricing scores according to the Stambaugh et al. (2012, 2015) relative mispricing measure. Portfolio performance is examined throughout various presidential terms. The design also introduces economic policy uncertainty (EPU) as a possible explanatory variable for portfolio performance.FindingsThe analysis reveals that anomaly-based returns are higher under Republican administrations than they are under Democratic administrations. Moreover, the results show that the impact of EPU on the relationship between the political party affiliation of the president and future anomaly-based returns are driven by the election and post-election years.Practical implicationsThe examination of returns on a long-short portfolio may be of particular value to investment companies, such as hedge funds, who regularly employ this type of strategy.Originality/valueWhile the impact of presidential terms on raw equity returns has been well examined, the paper is the first to examine the impact of presidential terms on the return of an anomaly-based investment strategy. EPU is also introduced as an important contributing factor.