Thursday, September 30, 2010

Market Discounting Change in Seasonal Tendencies?

We’ve been cautious in our asset allocation since the middle of the summer, mostly due to the mix of poor business cycle dynamics and technical conditions that led us to put on some risk control measures. One of the many risks we faced during the summer was the prospect that markets were approaching the traditionally tough seasonal period that occurs between September and October. Many think of October as the worst month of the year, probably scarred by the 1987 stock market crash that took place during that month. After reading some very intensive studies on the subject, it turns out September is historically the worst month of the year, and October is not even historically the second worst.

On that front, there is some potentially good news for investors when looking at the seasonal environment. First off, we are effectively through September. Secondly, there has been a flood of data running through research services that indicate that the stock market typically does very well coming out of the midterm elections, and has generated particularly robust gains in pre-election years (2011).

The markets have been surging lately, and we can’t help but wonder whether the market is front running the positive seasonal tendencies around the corner. We aren’t ignoring this shift, and view this as an on the margin headwind becoming a tailwind. However, we also acknowledge that seasonals can be fickle and tell us nothing about the fundamentals of the global economy. Seasonal statistics look great on paper, but they don’t always work as advertised. One only has to look to the 10% S&P gain that just occurred during the worst seasonal month of the year to keep from putting too much stock in simple seasonal tendencies.