17 October 2011 – Macro Insight
Macro Insight: October Revolutions
Pudd’nhead Wilson had it right: “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.” Even in Mark Twain’s day, it seems, October was a notorious month for stocks.
Market historians refer to October’s tendency to coincide with inflection points in stocks as the Mark Twain Effect. While it is too soon to know whether October 3 will prove to be the low for 2011, it would fit comfortably with past market cycles.
Since 1928, the market was down for the year in October a total of 37 times, but went up from there in all but 8. In those 37 years, stocks sold off through the lows for October an average of -14.3% and then rallied 5.4%, ranging from a high of 28.1% (1998) to a low of -9.9% (1973).
Fourth quarter recovery rallies can be powerful. Even in 2008, when the market plunged -42.2% by mid-October and the global economy was sliding into recession, stocks posted a respectable gain of 6.4% through the end of the year. Altogether, a third of the rallies more than wiped out the year-to-date losses and pushed stocks into positive returns for the full year. The record surge in 1998 occurred in an environment that is strikingly familiar in shape if not intensity: default fallout in Europe, central bank interventions, and pervasive but ultimately misplaced fears of a global slowdown.
While the seasonals have yet to fully play out in 2011, the persistence of the October recovery rally through all kinds of market environments is striking. This year, the S&P was down -12.6% through the October 3 low, right in line with history; by mid-month it was up 11.5%, already more than the average recovery rally but less than a third of the way to the 1998 record. There is good reason to expect more.
Although forecasts of another US recession are endemic, the hard data generally shows that the recovery is fragile but intact, from payrolls to purchasing manager surveys to retail sales. Global central banks are easing policy, Europe is edging toward a solution of its sovereign debt crisis, at least for now, and there are even early whiffs of a policy shift in China. The pieces are in place for a powerful fourth quarter rally.
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