September weakness or strength?

As we discussed in our last post, August and September are a seasonally weak period for the markets.  If we look at the data going back to 1950 the worst two months based on monthly returns are August and September.  However, the momentum remains with the bulls and there are plenty of studies that validate persistent strength going forward.

The S&P is up 8.5% year-to-date.  If we look at prior instances when the S&P is up 8% or greater through August we can see that the remainder of the year tends to finish strong.  On average, the S&P returns 4.56% September through year end as strength begets strength.  The remaining years average 2.83%. 

Below is a study from the blog of Steve Deppe:
"Speaking of 5-month winning streaks, if we turn our attention to the bigger picture rather than speculating about the month of September, August landed what has historically been a huge left and right uppercut combination to the bearish thesis.  August saw the S&P 500 finalize a 5-month winning streak that also closed the month at an all-time high. Since 1950 we have 15 prior instance of 5-month winning streaks that closed month number 5 at a new all-time high for the S&P 500.  14 of 15 then saw the S&P 500 close higher 4 and 6 months later, for average returns of 5.43%, 6.35%.  15 of 15 saw the S&P 500 close higher 1 year later, for average returns of 13.69%.  While historically the path of least resistance is always higher for the S&P 500, it's not higher with a 100% win rate.  The directional certainty following 5-month winning streaks has been rather persistent, along the lines of Newton's first law, as the object in motion has tended to stay in motion."

One of our favorite quantitative research firms is Nautilus research.  Below shows the strength in the S&P 500 following the first new high breakout in 6 months. 

Turning our attention to economic numbers the ISM index just registered a 61.3 reading for August.  The key takeaway from the report is that manufacturing demand is strong as the economy continues to grow at a healthy rate.    

All this good news is not without risk and fear.  Certainly there are plenty of issues to worry about in the coming months as always.  The continued trade wars with China headline the uncertainties followed by midterm elections, NAFTA renegotiation's, and the Fed's interest rate policy.  One interesting stat that favors short term weakness is another study from Steve Deppe.  When August makes a new all time high there is a historical tendency for weakness in September.  There have been 13 years with a new ATH in August and the S&P closed September lower in all but two (85%) by a median of 1%.

We started this blog looking at some weak seasonal trends.  A deeper dive turned a bearish outlook into a more positive tone for the remainder of the year.  We continue to favor the long side of this market and the studies above confirm our bias.  The momentum generated through the first 2/3rds of the year should propel the indices through year end.  After 5 straight up months we wouldn't be shocked to see some level of consolidation in the short term but the overall outlook remains favorable.