Makes Historically, the month of December has delivered strong and consistently positive returns. The terms, “Santa Clause rally” and “December Effect,” are common names for this anomalous calendar effect. However, at the time of this writing the S&P 500 index is down approximately 15% month-to- date. This puts the US stock market on pace for the worst December since 1931, during the depths of the Great Depression. What happened??? There is never a shortage of narratives to comfort those who seek solace in logical explanations of market swings. This time is no exception. Below are some of the more commonly-accepted ones and the associated antagonists:
1. Fed policy misstep – Four years ago the US Federal Reserve began the process of unwinding extreme, stimulative monetary policy actions taken in the aftermath of the 2008 Financial Crisis by ending Quantitative Easing, reducing the Fed’s balance sheet and hiking the Fed Funds rate. On the path to “rate normalization,” the Fed has raised the Fed Funds target rate range, from 0- .25% to 2.25-2.50%. Critics contend that the Fed has gone too far with rate hikes in the face of recent economic data and market volatility and has imperiled future economic growth. (If the economy is, in fact, slowing it would be counterintuitive to hike interest rates.) The most recent hike, announced this month, drew widespread ire. President Trump, himself, publicly rebuked the Fed, leading to speculation that he might attempt to fire the head of this independent government agency.
Most Wanted: Fed President Jerome Powell
The sell-off in US stocks that began in October coincided with statements Powell made that rates were a “long way” from the neutral level sought by the Fed, and the Fed could hike above neutral.
2. Political risk – Impeachment talk. Political dysfunction. White House departures. Government shutdown. Foreign policy reversals. Trade wars. Tweets!
Most Wanted: President Donald Trump
3. Revenge of the bots – Algorithmic, computer-driven trading has been vilified as exacerbating volatility as selling begets more selling.
When nothing else makes sense blame the computers!
The selloff in stocks has left the US stock market teetering between a correction and bear market. Investor sentiment has soured to majority pessimistic levels not seen since 2013. Some pundits are calling for a recession next year, and the stock market is trading as if that’s a foregone conclusion. Noise.
Economic and market fundamentals remain constructive. The consensus forecast for 2019 US economic growth is 2.4%, down from 3.1% for 2018. The consensus forecast for 2019 S&P 500 earnings growth is 7.4%, down from 23.1% for 2018. Growth is expected to slow next year, but the positive trends are intact.
One thing December did bring to investors is a year-end sale. With the exception of Utilities, every sector of the S&P 500 is trading at Forward Price-to-Earnings ratios below their five-year averages and their lowest levels since 2012. Don’t lose your nerve.
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Jack E. Ditt, Jr. William L. McCollum