On August 24th of last year, the Dow dropped 1,000 points intraday to end down 588 points, and the S&P 500 Index fell into official correction mode. After that, we suffered through January's stock market turmoil and then got whacked with Brexit.
Can we please hit the beach now?
We can, but while we do, stocks might hit the skids. A measure of volatility for bonds has moved significantly higher than volatility in equities, and that suggests that U.S. stocks are poised to fall in the next month, according to a report by Thomas Lee, managing partner at Fundstrat Global Advisors LLC.
If you've been practicing good financial habits, a well-diversified portfolio may lessen any potential pain. Traditional havens are more expensive than they were last August, an extra reason to ignore market swings, assuming you're comfortable with your equity stake. Lee and other strategists expect turmoil in August to be a pause in a continuing bull market.
Alternatively, you may want to re-examine your definition of risk and consider a move into underperforming asset classes. More on that in a moment.
Lee's analysis of the market shows that over the past 12 years, in the 20 trading days after a volatility gap like the one he sees now, the S&P 500 declined 68 percent of the time, with an average loss of 1.3 percent.
A longer look at historical stock market numbers for August shows that 1.3 percent might be a best-case scenario. More than a third of the time, going back to 1945, price drops of 5 percent or more in the S&P 500 have been in either August or September, noted Sam Stovall, U.S. equity strategist for S&P Global Market Intelligence.
Why are the two months so bumpy? A lot of it may be tied to capital flows. Pension funds tend to add to their holdings in the beginning of the year, 401(k)s tend to be maxed out early in the year, IRAs have to be funded by April 15, and if you get a refund check back from Uncle Sam, you file early and possibly put some of that money back into the markets, said Stovall.
A month-by-month table tells the seasonal tale. August has the fourth-worst record for positive months, with 54 percent of Augusts ending with a gain. June and February are slightly worse, at 52 percent, and September takes the rancid cake, turning out a positive return only 43 percent of the time. On the performance front, only October's worst-ever monthly showing of a 21 percent drop tops the 14.6 loss for August and the 11.9 percent for September. And October was still a positive month 61 percent of the time.
For investors, forewarned is forearmed. If you're aware that the next few months may be volatile, then maybe you won't make an emotional decision and be tempted to sell at or near a bottom. It also provides a good excuse for making sure you're still comfortable with your equity asset allocation, and thinking hard about how you'd react if, say, your portfolio lost $50,000 over a narrow window of time. In any case, retreating into the perceived comfort of U.S. government bonds will yield less now. Last August, the yield on the 10-year Treasury was about 2 percent. Today, its popularity has driven its yield down to around 1.6 percent.