After seven months of gains, stocks face plenty of potential risks that could make September live up to its reputation as the worst month of the year for the market.
According to CFRA, the S&P 500 has been positive just 45% of the time in September, going back to World War II. The average 0.56% decline in the month is the worst of all months, with February the only other month with an average negative performance.
Strategists say it’s not clear a correction or pullback is coming, but the risks have been rising. They include Fed policy changes, the spread of the Covid delta variant and political risks.
Liz Ann Sonders, chief investment strategist at Charles Schwab, said it’s too simplistic to assume the market will follow history. “Are there myriad risks out there that at some point in time could be a risk factor that could lead to more than a 3% or 4% pullback? Absolutely. Could it be in September? Sure.”
The decline is even worse in September when it falls in the first year of a presidential term. On average, the S&P 500 has declined 0.73% in those years. CFRA also found that in years where the S&P set new highs in both July and August, like this year, the S&P fell an average 0.74% and rose only 43% of the time.
The S&P 500 was up about 3% in August and was closing out the final day of the month with a flattish performance. For the year so far, the S&P 500 is up 20%.
Risks growing
The month of September has built-in calendar risks, including the upcoming August employment report Friday, which could determine how much the Fed will tip its hand at its Sept. 22 meeting on plans to cut back its bond buying program this year.
According to Dow Jones, economists expect 750,000 jobs were added in August. If the number is dramatically higher, market pros say they could see the Fed ramping up its plans to wind down the $120 billion a month bond buying program and possibly announce it in September. If the payrolls data is as expected or weaker, the Fed could delay for a few months.
Sonders said weaker data may not be negative for the market, since it could indicate the Fed would move more slowly to pare back the bond purchases. The wind down of the bond program is seen as a precursor to an ultimate interest rate increase by the Fed, though Fed Chairman Jerome Powell last week stressed the two were not linked.
Sonders said the Fed will rely on the incoming data in making its decision. That makes the course of Covid and its impact on the economy an important factor.
“The bottom line is sadly, the market is still at the mercy of this…virus,” Sonders said.
Back to normal?
September has also been lauded as a month where Americans were supposed to feel a sense of normalcy, as children return to school in classrooms. Labor shortages have been expected to subside in September, as parents of school age children rejoin the work force and extended unemployment benefits expire.
The spread of the delta variant of Covid, however, has now created more uncertainty around the economy, as some companies push back reopening dates. Businesses from retailers to restaurants are seeing consumer traffic drop off, in reaction to the spreading virus.
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“Consumer confidence has already rolled over. It’s less about what’s the virus doing now. We all assumed things were going to be closer to normal in September,” said Julian Emanuel, head of equity and derivatives strategy at BTIG.
Sonders said the focus on the Fed will be an overriding theme in September, but Covid is also a potential factor. “I think the back-to-school component of this is more than just a potential needle mover,” said Sonders. “It’s whether we can stay in a general schools stay open without a much worse situation developing in some of the states where vaccination rates are lower. That’s clearly a calendar specific Covid risk.”
Emanuel said the market will be looking for the Fed to continue to push forward its plan to taper the bond purchases.
“This could be one of those ones by the time we get to the 22nd, the market may want the Fed to announce the tapering schedule because the implications of no announcement is this concern that they might know about the virus’ impact on the broad economy and the labor market,” he said.
Other risks in September could include inflation data. The consumer price index is released on Sept. 14, and if data continues to run hot, Emanuel said that could push up Treasury yields, a negative for the market.
Emanuel said the market is also keeping an eye out on any discussion of when the U.S. will reach the debt ceiling, and it is also awaiting the fate of the multi-trillion dollar infrastructure bill, expected to be considered by Congress in September.
The U.S. exit from Afghanistan also hangs over the market as a risk factor. Final evacuation flights left Kabul Monday. “The event has come and gone and the political fallout could be longer lasting, particularly if there are signs for greater instability in the region,” said Emanuel.
September is worst month
Emanuel has been expecting a sizeable sell-off, and September and October are often choppy times.
“It doesn’t mean the market is going to go down, but from our point of view there’s a lot of complacency and belief that as long as the Fed isn’t raising rates, the market cannot go down,” he said.
He said investors should protect against a decline, and suggests using options.
“We’re not saying you should be fearful,” he said. “What we’re saying is be prudent. You have fantastic gains in your portfolio.”
Sonders said there has been major corrections in the market under the surface, even though some investors see the market as resilient because the major indices have advanced to records. She said her biggest concern has been speculative froth and those assets have sold off.
“You’ve had rotational corrections and bear markets in areas like the meme stocks, SPACs and cryptos,” she said.
Sonders said she maintains one outperform, and that is health care. She said she is looking more at factor based investing than sector based. She said she is looking for factors in individual stocks that reflect quality and is screening for things like stocks with strong free cash flow or earnings revisions.
