Let’s all take a deep breath

Let’s take a moment and put the market’s current trading action into perspective. Earlier this year bullish sentiment reached levels not seen in years or even decades depending upon data source. Market volatility had also fallen to levels not seen in years as the market was steadily making new all-times highs. S&P 500 actually went 63 trading days without a 1% percent daily move higher or lower. A feat last accomplished in 1995. And it has been more than three years without a 10% or greater S&P 500 correction. This is four times the average duration of time between corrections. Not to mention the market shrugged off tensions in Ukraine, Ebola in West Africa, the rise of ISIS in the Middle East, slowing global growth concerns and the Fed slowly easing up on stimulus. Honestly the market had gotten ahead of itself and was in need of a cool-off period. More likely than not, that is what it is doing.

Yes, weak economic data out of Asia and Europe is a concern as they are major U.S. trading partners, but that weakness has not yet materialized in U.S. manufacturing reports. Just yesterday Industrial Production was reported to have climbed 1% in September. This was better than twice the consensus estimate of 0.4%. This report was further supported by the Philadelphia Fed manufacturing index climbing to 20.7, again besting expectations. Furthermore, weekly initial jobless claims fell to 264,000 last week, the lowest reading since 2000. If business activity was slowing due to weakness overseas, it would stand to reason that weekly claims would be rising, not falling as employers began cutting employees.

Ebola is also an issue, but honestly it feels as if the media is causing more harm than good. Not so many weeks ago it was ISIS or ISIL that was going to destroy the world, now it is Ebola. The reality is the “outbreak” that they constantly speak of is three patients in the U.S. Unfortunately the medical community was not as prepared as they thought they were. Their initial mistakes and miscues have prompted action and it now appears they are getting better organized to deal with any future patients. A full-blown global pandemic just does not seem all that probable.

Perhaps more than any other issue or concern out there, European markets appear disappointed that the ECB has not done more and in turn Asian and U.S. markets are suffering. Honestly, it is somewhat puzzling that the ECB has not moved from merely words to a more decisive plan of taking action. The region is on the verge of its third recession in six years and deflation is refusing to abate. Sovereign debt levels maybe high now, but deflation and a lack of growth are not going to help this situation at all. Should the ECB step up, the current market rout could end just as quickly as it started.

57.7% chance DJIA daily losing streak ended today

As trading commenced this morning it looked all but certain that DJIA was headed towards its sixth consecutive down day. Although DJIA did briefly turn positive early afternoon, that is not where it ended the day. Streaks of this magnitude or longer are not all that rare, with 109 in total going back to 1950. Sixty-three (57.7%) of the losing streaks ended on the sixth down day, 25 (22.9%) ended at seven, 14 (12.8%) at eight, 2 (1.8%) at nine, 1 (0.9%) at ten, 3 (2.8%) at eleven and the single longest ended at twelve days on January 24, 1968. The average loss incurred in all 109 streaks was 4.9% from start to finish with 6-Day losing streaks shedding slightly less at 4.0%. DJIA’s current losing streak is right around 5% since it commenced on October 9.

In the above chart, the 30 days prior to and 60 days after the end of the past 109 six-day or longer DJIA losing streaks have been combined into a single chart. The abruptness of the decline is clear and closely resembles what has transpired during DJIA’s current streak. Historically streaks tended to end with a nice bounce, but on average, DJIA was still lower 60 trading days later than it was before the losing streak began. That being said, the end of the losing streak also tended to mark a turn in market direction.

Rocky Octobers usually followed by solid November-December performance

At today’s close DJIA was down 5.3% so far this October and S&P 500 was off 5.6%, ranking this year as the seventh worst DJIA October and fifth worst S&P 500 October since 1950. In 64 years before 2014, DJIA and S&P 500 have both declined 26 times in October. However, these October declines were followed by 23 DJIA November-December gains averaging 4.0%. S&P 500 November-December gains have occurred 21 times with a slightly softer average advance of 3.4%. So despite all of October’s horrors, the market has historically finished out the year with a rally far more frequently than not.

Average $SPY correction sheds 14.2% in 135 days

Just ten days into October and the month is certainly living up to its scary reputation. Last week, the first full week of trading in the month saw DJIA fall 2.7%, S&P 500 3.1% and NASDAQ 4.5%. And at the close yesterday, S&P 500 closed below its 200-day moving average for the first time since November 16, 2012 and DJIA suffered its first Down Friday/Down Monday (DF/DM) since April 7 of this year. Typically both of these events tend to be negative in the near-term.

But for all the volatility and daily declines that have occurred since the market last traded at new highs in mid-September, S&P 500 was down just 6.8% from that all-time high at yesterday’s close extending its current streak without a 10% correction to 1107 calendar days. Based upon the average duration of time between past S&P 500 corrections in bull markets since 1949, a correction is long overdue. However, as you can see in the updated table below, the current S&P 500 streak without a correction is still well short of the 2553 days it went from October 1990 to October 1997.

In the following table, each bull market has been broken down and includes the corrections (defined as a market decline of 10% to 19.9%) that occurred within it. The bull markets beginning and end dates and closing prices are included and are used to calculate the “Days Between Corrections.” In each row labeled “Bull End,” that bull market’s duration and gain is calculated. Past corrections that did not manifest into full-blown bear markets lasted an average of 135 calendar days and S&P shed 14.2%. If the current bull market did end on September 18, (most likely not) its 197.3% gain in 2019 calendar days is above average.

October options expiration performance

Since 1982, the Monday of options expiration week has a bullish bias for S&P 500 and Russell 2000. S&P 500 has advanced 25 times in 35 years with an average gain of 0.80%. Russell 2000 has a nearly identical record, advancing 24 times in the same number of years, buts it average gain is slightly more than half that of the S&P 500 at 0.44%. Of note is the small-cap index streak of 17 straight advances from 1990 through 2006 and it has been down in four of the last seven years. Expiration day (Friday) is far less bullish with average losses across the board. Expiration week as a whole usually does result in a modest weekly gain. The week after has been especially volatile with large swings in both directions punctuated by heavy losses in 1987 (Black Monday) and 2008 (Financial Crisis).

75% chance of S&P 500 gains from Halloween to Christmas

“Massive S&P 500 Gains Halloween to Christmas” is the largest dollar amount winning trade featured in the Commodity Trader’s Almanac 2013, now with a cumulative profit of $256,938 per single futures contact over the last 32 years including most recent data. This trade is obviously linked to the beginning of the “Best Six Months” of the year as detailed in the Stock Trader’s Almanac 2014. Going long the S&P 500 near the end of October and holding until just before Christmas has been successful 24 of the last 32 years, or 75.0% of the time. Seasonal strength is shaded in yellow in the following chart. 

Choices to execute this trade are numerous: full futures contracts, the e-mini electronic futures or a handful of ETFs such as SPDR S&P 500 (SPY) or Vanguard S&P 500 (VOO). SPY has the longest track record, the most assets and is the most heavily traded ETF making it the top choice. VOO’s main attraction is a net expense ratio of just 0.05%. We will look to enter this trade when we issue our Seasonal MACD Buy Signal. 

Lagging small-caps are no reason for panic

A great deal has been said about how poorly the Russell 2000 small-cap index has performed recently. However, it is actually behaving rather typically especially when the relative meager year-to-date performance of large-cap indices is considered. In the chart above, thirty-six years of daily data for the Russell 2000 index of smaller companies are divided by the Russell 1000 index of largest companies, and then compressed into a single year to show an idealized yearly pattern. When the graph is descending, big blue chips are outperforming smaller companies; when the graph is rising, smaller companies are moving up faster than their larger brethren.

In a typical year the smaller fry stay on the sidelines while the big boys are on the field. Then, around late November, small stocks begin to wake up and in mid-December, they take off. Anticipated year-end dividends, payouts and bonuses could be a factor. Other major moves are quite evident just before Labor Day—possibly because individual investors are back from vacations—and off the low points in late October. Small caps hold the lead through the beginning of May, although the bulk of the move is complete by March, and typically languish from then until the cycle repeats again late-October or November.

Thus far in 2014, the Russell 2000 has followed this pattern nearly perfectly. There was an early-March high followed by a failed breakout in July and have been underperforming since. Today’s modest outperformance by Russell 2000 could be an early indication that small caps are about to turn the corner and begin to outperform once again.

What happened to all the “Sell in May” naysayers

Here we are in scary October and lo and behold market volatility has perked up. U.S. equities have been in decline since mid-September though the major averages are down only modestly so far. At this writing at the intraday lows DJIA was down 3.1% from the September 19 highs, S&P 500 -3.6%. From its September 18 closing high NASDAQ was off 4.4%. Many stocks and notably the Russell 2000 index of small caps are down 10% or more in official correction territory.

Back in early September most market participants and pundits were quite giddy. Sentiment was high and confidence was euphoric. After a big gain in August folks were dismissing September’s historical penchant for declines, citing its recent record of eight S&P gains in the past 10 years. At the end of August on CNBC (and in this space) we reminded and warned every one that while September often opens strong the week after triple witching and the end of the third quarter are notoriously treacherous for the stock market.

Well, as we now know, the end of September gave the market a bit of wallop and then Octoberphobia kicked in and stocks have been struggling so far this month. When asked what it would take to knock the market down on CNBC we said on camera that it would take something overseas or systemic in the market. The geopolitical arena from Ukraine to Ebola, Eurozone economic woes, weak housing and renewed Fed rate increase fears have surely weighed the market down in this seasonally weak timeframe.

And where are all the “Sell in May” naysayers now? Since the close of April DJIA is up 1.0%, S&P 2.9% and NASDAQ 6.7. We try to remind people that “Sell in May” is not a strategy. It’s just an old British saw. However, it does highlight the market’s tendency to move sideways and be more prone to downturns during the Worst Six Months May-October. Though stocks are a little higher since May, not much ground has been gained.

The degree of panic on The Street has increased, but our analysis leads us to believe that the current geopolitical and Eurozone concerns are overblow at this juncture. We have been expecting this correction and buying into it. Sentiment and market internals have gone negative with the market and we expect the August lows or the 200-day moving averages to hold on DJIA, S&P 500 and NASDAQ. October is the best month to buy stocks. To quote one of the greatest investors of all-time, Warrant Buffet, who recently admitting to buying stocks in this correction, “You try to be greedy when others are fearful, and fearful when others are greedy.”

Omaha! Omaha! Good Call Buying Rosh Hashanah

In honor of the New York Football Giants three-game winning streak and stellar performance yesterday by their two rookies, wide receiver Odell Beckham and running back Andre William, who both had touchdowns, I wanted to highlight the audible we called over a week ago. Usually it pays to “sell” on or before the Jewish New Year Rosh Hashanah and “buy’ the Day of Atonement Yom Kippur.

These holidays fall during the tumultuous time for the market during September and October. In addition to the frequent end-of-Q3 volatility and Octoberphobia, many schools close sometime during the holidays and traders and investors busy with religious observance and family closed out positions and creating a buying vacuum.

But this year as the market was already in decline we changed the play at the line of scrimmage and suggested “Buying Instead of Selling Rosh Hashanah.” Stocks did continue to fall further as they often do during this seasonally weak holiday period, but by the close on Friday before Yom Kippur stocks had rallied back posting fractional gains from Rosh Hashanah to Yom Kippur. 

Best & worst September ETF sectors

September began in typical fashion this year, early strength that lead to mid-month new market highs and it also finished rather typically. The week after September options expiration week was down and then end-of-third-quarter window dressing saw major averages decline even further. In the end DJIA finished down 0.3%, S&P 500 off 1.6%, NASDAQ shed 1.9% and the Russell 2000 small-cap index tanked 6.2%. This September was the worst September for the Russell 2000 since 2011 when it fell 11.4%. Year-to-date, the Russell 2000 was down 5.3% at the close of September.

Declines were broad based in September with only the Bear/Short sector producing an average gain, up 7.9%. Least declining Almanac Investor ETF sectors in September were: Biotechnology/Pharmaceutical (–0.3%), Target Date (–0.9%), Healthcare (–1.0%), Bonds (–1.2%) and Broadband/Networking/Internet (–1.5%). The three worst performing sectors were: Natural Resources/Gold (–10.0%), Leveraged Long (–9.7%) and Energy (–7.5%). Seven of the top 10 September losers came from the Natural Resources/Gold sector. Global X Silver Miners (SIL) was the worst, plunging 22.7% in the month. Global X Pure Gold Miners (GGGG) was nearly as bad, off 21.9%. In total, five gold or silver related ETFs suffered declines in excess of 20%. Three Brazil funds also appear on the losers list. iShares Brazil (EWZ) lost 19.1%. Brazil had a much better August on hopes that the incumbent administration would be ousted at election time. Those hopes quickly faded in September.