We remain positive because of the solid data, not the season.
Oct. 10, 2018 Commentary

Calendar, Schmalendar…The Robust Data, Rather Than Seasonality, is Driving Equity Returns


“October: This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August, and February.” - Mark Twain

While Mark Twain happened to be a particularly poor investor, that fact didn’t stop him from being an active stock trader. Unfortunately, later in his life, he was forced to conduct a world tour to entertain global audiences to repay debts and emerge from bankruptcy, in spite of significant earnings as an author and his wife’s inherited wealth…all because of ill-advised investments. So this quote of his above is more than typical Twain tongue-in-cheek humor; it was reality for him and his family. He does have a point in that the market is indeed fascinating every single month of every year.

It’s interesting that he starts his observation with the month of October. That may get your attention since it’s the month we are in now. For some reason, the month of October, in general, gets a very bad rap. While October, on average, is a positive month for stocks, it’s home to some of the worst experiences in the history of the U.S. equity market, including:

  • “The Crash of 1929” that started on Oct. 24, 1929 and culminated in the 12 percent single-day decline on Oct. 29
  • “Black Monday” on Oct. 19, 1987, when the market plunged 23 percent in one day
  • The 2008 Housing Crisis that culminated in the 777 point drop in the Dow on Sept. 29, 2008 and the continued 8.7 percent bleed in the Dow in the month of October that year

Whew…those are some tough memories. That said, there have been enough fertile Octobers through the years, such that overall, it’s an alright month for returns despite these concentrated nightmarish moments. Actually, the two toughest months in the market tend to be the ones we just sailed through, August and September.

On average, these months generate negative returns in looking at data for the Standard & Poor’s 500 index going back to the 1960’s. The cause of this isn’t completely clear, but it stands to reason that summer vacationers may return from the beach refreshed and ready to make portfolio adjustments going into the final quarter. Some also assert that since mutual funds generally have fiscal years ending September 30, it results in significant “window dressing” and pruning of poorly performing stock positions by fund managers at this time. Regardless, I would caution you from making any tactical moves based on this so-called perceived seasonal effect. The reputationally-challenged August and September time period has been nicely positive in five of the nine late summer seasons post the 2009 recovery. This year is a great example. Specifically, the S&P 500 advanced 7.2 percent for the three months ending Sept. 30, 2018 and had pretty good months in August and September. In addition, the S&P 500 broke through to new record highs in August after a seven month pause from hitting a new high, and the Dow Jones Industrial Average accomplished the same feat in September after an eight month pause. This is a very positive sign. In going back to the 1950’s when these indices have broken through to new highs after such measureable pauses, the data shows they tend to generate double digit returns in the ensuing 12 months. More important to us, though, is that the positive price trend is supported by economic and earnings data as well as reasonable valuation. We think the table sets-up well when looking out over the next twelve months.

For What It’s Worth…the Q4 Seasonal Data is Favorable

For those folks who do like to stay abreast of the seasonal trends in the data, there is reason to be optimistic as we move into Q4 and into 2019. The adjacent chart shows that November and December have historically been good months for the S&P 500, with average returns of 4.1 percent in Q4 going back to 1950. Further, the data also illustrates that in the 14 observations going back to 1950, when the Q3 return of the S&P 500 has been 7 percent or greater, the average ensuing Q4 return has been a higher 5.9 percent. Interestingly, in mid-term election years, the Q4 average returns for this index are even richer, as illustrated in the average 7.8 percent return enjoyed by investors in the S&P 500 during these periods. Finally, the S&P 500 has not declined in the 12 months following a mid-term election since 19461. I’m not saying there can’t be a first, but this is a notable factoid! The rationale for this is tethered to investor psychology…relief rallies ensue following periods of pre-election uncertainty and angst over potential policy shifts. Once the outcome is known and investors accept that these fears were overblown, they can focus on the facts and the fundamental data supporting the market. 

S&P 500 Historical 4Q Performance

Source: Strategas

The Wall Of Worry and Where We Stand

We have consistently tracked and commented on the rolling wall of worry that has been in the headlines ever since the recovery began in 2009. The worry items have evolved over this 9-year stretch, but the list has been lengthy throughout…hence the phrase that the market “continues to climb the wall of worry.” Items most prevalent in investors’ minds today, some of which have been dissected often with you in recent writings include:

  • Concerns advance about the age of this economic expansion and the length of this bull market
  • Angst that earnings have peaked
  • Worry that the yield curve could invert
  • Fear about potential Fed policy mistakes
  • Signs of two opposing risks— excessive inflation at one extreme and recession at the other
  • Uncertainty over re-negotiations of global trade agreements

Bottom line: There are two important takeaways about our view on the wall of worry. First, we are comforted that it exists and even more that it is being studied in respectful fashion. The time to really worry is when there is no wall of worry. There is no better example of the mere absence of the wall being the real risk as during the tech bubble in 2000. Remember that period when such phrases as “this is a new paradigm” and “this time is different” were prevalent and amateurs were quitting careers to become day traders in droves? Or how about Citigroup’s CEO, Chuck Prince, commenting in 2008 about originating and selling mortgages on the cusp of the housing crisis: “the music is still playing and we’ve got to dance.” There is no such disrespect for risk today.

Secondly, we do not see any of these current worry items spilling over into the fundamental economic or earnings data at present. Neither do we see them leaking into the confidence readings of key constituents in the economic and business world. Confidence on the part of consumers, CEO’s, small business owners and employees appears to remain robust.

Conference Board: Consumer ConfidenceNFIB Small Business Optimism Index

Source: Strategas

What is a bit odd is that while these main street constituents are confident, investors are not only respectful of the various wall of worry risk factors right now, they are downright somber. Specifically, the recent American Association of Individual Investors (AAII) survey shows that far fewer investors believe the market will be up more than usual in the next six months. Only 32 percent expect positive stock returns in the next six months, which is well below the 40 percent long-term average and down from the 42 percent level only a month ago. We view this investor pessimism as a positive factor from a contrarian standpoint. It means investors are skeptical and not euphoric, as is the norm at market tops. It also means valuation is reasonable and not stretched like you see at market peaks.

Valuation Has Improved and Looks Reasonable to Us

From our perspective, the chart and table below illustrate two key facts that are unappreciated in the market:

  • P/E multiples have quietly fallen from almost 19 times earnings earlier in the year to 16-17 times as earnings growth has accelerated
  • The current multiple is very close to the long-term historical average of 16 times earnings; that said, the historical average P/E of 16 times has held at average rates of inflation, interest rates and taxes that were far higher than we experience today. We’re nowhere near the historical averages of 3.5 percent inflation, the average 10-year Treasury rate of 5.6 percent, the average tax rate of over 50 percent on dividends, etc.

S&P 500 NTM P/E since 2017

Based on these above factors, we see the potential for some modest multiple expansion going forward, particularly if these wall of worry risks are as manageable as we expect them to be, and outcomes are better or “less worse” than feared.

The Wall Of Opportunity 

Enough of the wall of worry. We want to switch gears for a moment and suggest considering items we consider to be on a “wall of opportunity.” These are items that have a fairly high probability of occurring, but don’t seem to be on most investors’ radar. Their occurrence would be a positive surprise. Any one, or combination, of these items could lift earnings, P/E multiples and hence the market. These items include:

  • Rising business investment that leads to rising labor productivity and a virtuous cycle of rising demand
  • Innovation via 5G, cloud, artificial intelligence/machine learning
  • The threat of tariff’s by the United States result in trade agreements that lower global tariffs
  • The Fed avoids a policy error
  • The mid-terms result in gridlock

With regard to the first item, we see evidence of rising capital expenditures (as illustrated in the chart below) that are long overdue. 

S&P 500 Net Income Growth vs Capex Growth

This is the result of the strong confidence readings by CEO’s and small business owners, tax incentives to invest, and the estimated $700 billion in repatriation of foreign profits by U.S. companies. This is significant…it can drive rising labor productivity and allow companies to increase wages without raising prices excessively and maintain profit margins...a phenomenon that generates a virtuous cycle of rising demand and profits.

Progress in various areas of innovation (mentioned above) is simply impressive. 5G and greater, faster connectivity of mobile devices, cars, machinery, etc. is happening. Machine learning is driving industrial automation and advances in robotic capabilities to levels that, quite frankly, rival the industrial revolution. Consumers have been the key beneficiaries of tech innovation. This is shifting to enterprises and could enhance the Virtuous Cycle.

We see progress in trade, ex-China, that is key and actually should lower tariffs with key trading partners such as Mexico, Canada, the European Union, South Korea and Japan. We will stay tuned.

We think the Fed is appropriately hiking rates and will pause, if called for, a la the 1994-1997 Fed playbook. Regarding the mid-terms, a slight Democratic majority in the House and the same result for the GOP in the Senate is the anticipated outcome. Even if the Democrats sweep, it should be by a narrow margin and result in gridlock…meaning no unwind of tax cuts and growth policies in place, which is the key.


We remain positive because of the solid data, not the season. The leading economic indicators continue to climb, unemployment is low, wages are rising, business investment is picking-up and earnings and revenue growth are robust. We’ll continue to study and see if the worry items begin to impact fundamentals and get the upper hand in a negative way. In contrarian fashion, we like the landscape for equities.


1Barron’s article “After the Mid-Terms”, published Oct. 1, 2018

The views expressed are for commentary purposes only and do not take into account any individual personal, financial, or tax considerations. It is not intended to be personal legal or investment advice or a solicitation to buy or sell any security or engage in a particular investment strategy. There is no guarantee that any claims made will come to pass. The S&P 500 Index is a market-value weighted index provided by Standard & Poor’s comprised of 500 stocks chosen for market size and industry group representation. You cannot invest directly in an index. The Dow Jones Industrial Average is a price-weighted index that measures the average performance of 30 large American publicly traded companies. You cannot invest directly in an index.

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