Navigating the September Effect: A Market Update for Fall 2023

Summer has come and gone, Labor Day is behind us, and school is back in session. A little mental health relief for parents but at the cost of the highest back to school total spending on record.

To be honest, I love fall. Playoff baseball starts, I was born in October, my wife was born in November and our wedding anniversary is smack in the middle of both. An expensive 30 days to say the least. Folks can get a little carried away with the season, however. Dunkin Donuts dropped their fall menu and began serving pumpkin spiced lattes on August 16th. I walked into a CVS on August 31st, and they were decked out, floor to ceiling, in Halloween decorations. I was a little spooked.

Heading into the Fall what do we know about markets and the economy? What may surprise us?

Well, the age old mantra “Sell in May and go away” didn’t materialize this year. Despite a choppy down month in August when we saw the VIX Volatility Index wake up and come off 3.5 year lows, the S&P 500 was up 8.25% from the start of June to the end of August.

We’ve also seen the stock rally broaden a bit. Let me remind you, before the start of June, only five companies (Apple, Microsoft, Google, Amazon, Nvidia) were responsible for essentially all the gains in the S&P 500. If you add Tesla and Meta to the aforementioned 5 stocks, the rest of the market was actually negative. During the same period that the US Large Cap Growth Index was up 21% for the year, Value was down -1.5%. However, we saw this broaden out in the summer.

Interestingly enough, not only does September usher in the Fall season but over the last 3 years it also brought a fall in equity prices. Historically, September is the worst month for the stock market (whether this means an outright dip or a less than stellar return versus the rest of the year). No matter how you look at it, over 5, 10, 20, 50 even 90 years, September is the worst performing month. The phenomenon actually has a name. Wait for it…. “The September Effect,” but it’s mostly anecdotal.

In the long run, it’s always important to have a meaningful allocation to tech and sectors driven by innovation but it’s also important to protect capital. Currently, it’s much too difficult to predict whether the FED has achieved a soft landing. History tells us the likelihood of one is rare with this magnitude of a hiking cycle.
 
When it comes to the soft-landing conversation, there are concerns. Primarily, the near-perfect chain of events needed to ‘stick the landing.’ Equity risk premia isn’t that attractive given the circumstance. What’s risk premia? It’s the excess return you can expect above that of a risk-free asset (i.e. Treasuries).

Also, Inflation has been a little sticker than some initially expected and after 11 straight meetings resulting in rate hikes, I’m not sold that they’ll pause when they meet on September 19th and 20th. If they do stop hiking, rates should remain higher for longer until inflation cools off and hovers around a more palatable figure. Either way, the market is too optimistic regarding how quickly the FED is expected to reverse course. Investors’ exposure to higher interest rates comes in the form of a slowdown in economic activity. As higher prices hit consumers, it’s a double-edged sword for companies in the form of decreasing earnings and increasing costs. This inevitably impacts equity valuations.

Let’s not forget that we also have geopolitical wild cards in Russia, Saudi Arabia and China. Russia and Saudi Arabia surprised the market by cutting output in oil through the end of the year. This isn’t great for short term inflation. China contributes heavily to global GDP but their GDP growth projection for this year is less than 4.5% which is a 30-year (taking out 2020 & Covid). The MSCI China is down -11.2% on the year and was down over -20% in 2022.

This isn’t meant to bring fear or a call to run out of equities but the likelihood of a 5-7% move up seems just as probable or maybe less than a 5-7% move down.

In any regard, one of the best parts of Fall is the start of football season and in order to be a great football team you must thrive in all 3 phases of the game: Offense, Defense and Special teams. This is no different than a great portfolio. This means having best-in-class investments in Equities, Fixed Income and Alternatives. Each unit is pivotal to the success of the team and each asset class contributes to the efficiency and goal of the portfolio.

Of course, equities belong in all portfolios as they are the offense and therefore the growth engine but when the offense loses steam it’s nice to rely on the defense (Fixed Income) for protection and special teams (Alternatives) for some secrete/surprise plays that could win you a game even when it appears you’re losing.

We haven’t seen bond yields this high in 10 years, but it isn’t just about the 6% yield on high grade corporates that makes them attractive. Though the FED may hike again in a few weeks and rates may stay elevated in the short term, they will come down eventually as the FED looks to invigorate the economy. Cuts will come in due time and, when they do, there is an inverse correlation between bond yields and bond prices. So as yields fall, the bonds you hold will increase in value. There is a total return component that is being telegraphed! Sometimes the defense can put points on the board too.

On special teams you have the kicker, punter, the kick returners, and most of the time you don’t know what they are working on in practice or what half the players’ names are. However, in important games they end up being the unsung heroes. It’s the same way with alternatives and we saw that in full effect in 2022. Investments like private credit which carries an 8-11% yield, hedge funds, venture capital, farmland, and real estate can all thrive in certain market environments while also lowering the portfolios’ overall volatility.

And similarly, to the gambling disclaimers read at the end of commercials:

Please invest responsibly and only allocate to risky assets in amounts you are comfortable seeing at a loss. If you do have issues in your portfolio, ask for help, and call a financial advisor toll free!

Disclosures

This information is provided for informational purposes only and does not contain investment advice or an offer or recommendation of securities. Connectus Wealth, LLC d/b/a Connectus Private is an SEC registered investment adviser. Investment does not imply government endorsement or that the adviser has attained a level of skill or training.