We looked at what tends to happen after a (rare) positive month of September for the S&P 500. In a recent Commentary (from July 7th) we showed that statistically, since 1948, the S&P 500 has only risen in 43% of the months of September. The figure below shows the performance of the final three months of the year after a positive month of September. Since 1948, the S&P 500 posted positive September returns only 29 times. Among these 29 occurrences, October, November, and December tended to be positive (black numbers below bars). And the averages gains were all significantly positive (blue numbers above bars).
For those who remain incredulous regarding the movement in equity indexes during this economic expansion, you have good reason. To put the equity rally in perspective, we looked at the S&P 500 performance normalized by U.S. GDP growth.
The booming expansion that began after the 1991 recession and included the tech revolution saw the S&P 500 grow by 170% more than the underlying economy. By comparison, the lack-luster post-Financial Crisis economic expansion has seen the S&P 500 grow by 160% more than the underlying economy. This is really amazing given the vastly different quality of the U.S. economy between 1991-2000 and 2009-2017 (GDP growth was over twice as strong in the former period). Of course we know who to thank for the similar relative performance in the S&P 500 between the two periods.
Another feature of stock cycles is the use of Margin Debt allowing traders to increase equity exposure. Again, the friendly Fed has allowed debt to be borrowed at inappropriately low rates throughout this economic expansion, resulting in the highest level ever for Margin Debt relative to GDP. Borrowing during the Tech Bubble was not so exaggerated, in retrospect.
The classic signs of danger are there: excessive risk-taking, the absence of short-sellers, high levels of optimism (although perhaps not yet excessive). However this time the market is marching to the beat of a different drummer (that of the Central Banksters).
While the levels of equity indexes are both scary and perplexing (how can everyone be on the same side of the boat?), the costs (and risks for managers) are still higher in abandoning the ship now rather than remaining onboard for the daily cruise in the indexes to record highs.
There are several possible equity strategies for thoughtful investors today.
1. Go into the crowd and buy technology stocks & S&P 500/Nasdaq/German DAX component company shares in hopes that dips will continue to be bought up rapidly. But be ready to do a lot of trading if we get a bunch of false starts to the downside.
2. Take a long-term view, buying attractive companies based on fundamental criteria, and ride out any market volatility.
3. Instead of buying high and potentially selling low with technology shares and broad market equity indexes, it is probably a better long-term strategy to buy low, seeking out themes that are not already at record highs. In this regard, oil and mining stocks clearly hold the greatest upside potential for patient investors as the economic cycle turns in favour of these industries.
Despite the observations made above, investors should remain concentrated on their own personal return objectives and risk tolerances and not fear equity investing in general. However it is time to be much more selective. We remain invested today as economic conditions are not unfavourable and there is a collective desire on the part of central banks and other major financial market participants to keep equity markets rising. The equity party rolls on
until further notice from the Central Banksters and bank algorithmic trading programmes.