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Photo by Trevon Baker, courtesy Investech Research
James Stack is a market historian, investment adviser and president of InvesTech Research, an investment newsletter with its home on the shores of Whitefish Lake, Mont., a world away from Wall Street.
After October stock market crashes in 1929 and 1987 and the October 2008 meltdown during the financial crisis, Wall Street gets the jitters this time of year. Why do past Shock-tobers still cause fear? I also recall 1978 and 1979 having October mini-crashettes. But it was Black Monday in 1987 [when the Dow Jones industrial average fell 23%] that cemented Octobers reputation as a bad month for investors. Ever since then, whenever October nears, it brings back fears.
Can fear make things worse? Psychology plays a big role in sudden and more-severe corrections. It goes back to the saying from boxer Mike Tyson: Everyone has a plan until they get punched in the nose. Every novice investor is buy-and-hold thro! ugh thick and thin until the market starts falling more than they thought.
What makes October so treacherous? The summer months heading into October tend to be low-volatility months, which often is a precursor to higher volatility. The lull creates a sense of complacency for investors who expect the market only to go up. When it starts going down and drops more than 10%, you end up with an unusually large number of investors suddenly heading for the exit.
Long-Term Rates Will Edge Higher
It has been a quiet year on Wall Street. Should investors be worried? The largest pullback for the S&P 500 this year has been 4.2%, and there have been only three other years with drawdowns of 4.2% or less in the past 70 years. The average intra-year drop is 13.5%. It would be logical to anticipate a larger correction at some point between now and year-end, particularly with high valuations and a high degree of exuberance and public participation. But it doesnt necessarily mean a crash is coming.
Do past crashes have things in common? Yes. Prior to crashes in October 1929 and 1987, you had very hostile monetary climates. Interest rates were rising rapidly. In the 90 days prior to Black Monday in 1987, rates went up 1.5 percentage points. We dont have a hostile monetary climate now, although we could see the Fed take its foot off the gas in coming months. We wouldnt have to see much of a change in Fed policy to create a bearish climate.
Are you more worried about a Fed misstep, COVID-19 or high stock valuations? I doubt that the residual effects of COVID are going to be severe enough to cause a market panic or crash. And overvaluation doesnt cause a bear market, but it does raise the risks that when a bear does start it can become a larger one.
So, are rising rates the main threat? Thats the one dark cloud. It worries me because nobody expects itthe Fed said it wont start raising rates until 2023. But if the Fed is backed into a corner by inflation pressures and start! s talking! about raising rates by year-end, it could create havoc on Wall Street. The stock markets dependence on todays record-low rates makes it the most interest-rate-sensitive market in history. Monetary policy is the wild card and by far the greatest risk.
What should investors do? Id keep more dry powder as we go through a seasonally unfavorable period, and Id look at November or December as a time to add to positions.