Market Volatility Returns

Market Outlook

Your August 1st Weekly Setup mentioned “…We expect volatility to increase over the next two months from the current historical lows including another price pullback…Don’t be surprised if September starts strong as it has in thirteen of the last nineteen years. But the market begins to fade as money managers’ start selling off losers and repositioning assets for the end of the third quarter window dressing…” This prognostication is playing out as advertised when last week all of the major indexes fell at least a percent and was the worst week for stocks since the week ended August 1st. It was a roller coaster of a week, with the Dow swinging more than 100 points on all five days. Some investment strategists expect to continue seeing wild swings as investors speculate over uncertainty surrounding global geopolitical events, U.S economic growth and the Federal Reserve's next steps. 

Last week pointed out “…One item of note…is the Russell 2000 index dropping into negative territory for the year.  You would prefer to see all the major indexes breaking out to new highs to have confidence in a bullish move. Small caps underperformance is an indication of investors wanting to avoid riskier trades at stocks current frothy levels…” The updated graph below supports our previous analysis as last week all the major stock indexes followed the Russell 2000 lower. The small cap Russell 2000 took a big hit and all the major stock indexes suffered losses.

Investor Analysis

Last week we reported “…The Stock Traders’ Almanac says…fund managers tend to clean house as the end of the third quarter approaches… the week after September options expiration, has consistently been one of the worst of the year. Since 1988, weekly declines average from –0.88% for NASDAQ to –1.43% for Russell 2000. S&P 500 has only posted full-week gains five times in the last 26 years…” Last week projected as advertised with stocks having the worst week in months. 

The Stock Traders’ Almanac also says October often evokes fear on Wall Street as memories are stirred of crashes in 1929, 1987, the 554-point drop on October 27, 1997, back-to-back massacres in 1978 and 1979, Friday the 13th in 1989 and the 733-point drop on October 15, 2008. During the week ending October 10, 2008, Dow lost 1,874.19 points (18.2%), the worst weekly decline in our database going back to 1901, in point and percentage terms. The term “Octoberphobia” has been used to describe the phenomenon of major market drops occurring during the month. Market calamities can become a self-fulfilling prophecy, so stay on the lookout and don’t get whipsawed if it happens. But October has become a turnaround month—a “bear killer” if you will. Eleven post-WWII bear markets have ended in October: 1946, 1957, 1960, 1962, 1966, 1974, 1987, 1990, 1998, 2001 and 2002. Eight were midterm bottoms. Current market weakness could be setting up October 2014 to be another “turn-around” year. 

Notice in the updated graph below, over the past month healthcare remains the strongest S&P sector. Consumer staples normally strengthen in the fall and that is reflected below. Also the industrial materials sector is higher as home building and construction improves. Keep in mind if that if interest rates rise this should benefit financial stocks because this equates to more revenue for banks. Purchasing shares in any of these sectors should be a good bet as they will lead the market if stocks breakout higher.

By Gregory Clay

Investment Strategist

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