Each week, we tap the insight of Sam Stovall, Chief Equity Strategist for S&P Capital IQ, for his perspective on the current market.
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EQ: Last week, you attributed the slumping investor sentiment to Syria, seasonality, and sequestration. But even as the tension over Syria is escalating, from strictly a market perspective, has the impact waned somewhat from that initial selloff we experienced?
Stovall: Even though I don’t think that the concern over Syria has increased, the rhetoric certainly has picked up. So while the Senate subcommittee voted 10 to 7 to push forward, we still have to wait for a full Senate vote. We also have to wait for a vote from the House of Representatives. It just seems that the more we talk about it, the less of an impact it’s going to have, and it becomes more of a face-saving effort for the U.S. government.
EQ: In this week’s Sector Watch report, you dove into the market’s reaction to major historical conflicts and “shocks to the system.” Were you surprised as to how resilient that market has been to these iconic moments?
Stovall: I looked back at shocks that took the market by surprise and how the market reacted. Of course, it’s not an exhaustive list. It was based on what I could come up with from my own memory bank. What I found was, in the one day that the market sold off, the median decline was about 2.5 percent. Certainly, we had unique situations like the 20-plus percent decline that took place in the 1987 crash, but everything else was anywhere from 0.5 percent to up to maybe 5 percent in a single day.
So there have been pretty hefty shocks. But I found that the bottom was eventually established basically within less than two weeks of trading. On average, we ended up slipping into a pullback (5 to 10 percent decline). What I found most intriguing was we ended up getting back to break-even in the median of only two weeks. So it shows that while the markets could be thrown for a loop because of an unanticipated event, investors typically assess the economic impact in short order, allowing opportunistic traders to step in and quickly push share prices back to break-even and beyond.
This time around seems more similar to 2003 when the U.S. invaded Iraq for the second time. It was such a well-telegraphed event that the market went up in anticipation of it and continued to rise thereafter.
EQ: For the most part, it seems like the majority of people and investors expect the situation should be contained should the U.S. decide to strike. However, the potential of drawing in other participants is a real concern for global stability. But you noted that if a market shock was triggered, it would be the most anticipated of unanticipated events in modern history. Can you elaborate on that?
Stovall: I may have injected a bit of drama in that statement, but basically it would be as surprising as the British invasion of Gallipoli in 1915. The navy attacked in the spring and pretty much hung out there until the army arrived in the fall. So the Turks certainly had plenty of time to prepare its defense. I think we’re in a similar situation here. We’ve been talking about it so much that it does end up being a pretty unanticipated event from the standpoint of attempting to have some sort of pinpoint strike, which would then send a message to the world that we will not tolerate the use of chemical weapons. But we don’t really know how surrounding countries might respond.
We know Syria really does not impact much at all to the overall exporting of oil, but we do worry because 17 percent of global oil supplies flow through the Strait of Hormuz. One of the worries is Iran could choose to mine that crucial waterway, but if you think about it a little further, Iran is also a major gasoline importer. So why would they block the route which they would use to bring in gasoline?
So we don’t really know if it would trigger other terrorist activities or negative responses from Russia, China, etc. There are uncertainties that remain, but I think the market is saying that it probably won’t end up affecting the global economy.
EQ: We’ve entered September, which is historically the weakest month for stocks. With so many headwinds circling around right now, are you concerned that a meaningful decline could be coming in the near future?
Stovall: September certainly has the reputation of being the worst month, and it’s true that it’s posted an average decline whether you go back to 1990, 1970, 1945, 1929, or 1900. The only month that comes close is February, and this is the only month in which we have actually seen the market fall more frequently than it has advanced. On average, it’s risen only 45 percent of the time. Every other month had a greater frequency of rising in price. So seasonally, we’re in a very vulnerable time frame.
Could I see something that could trigger a sharper decline? Yes, there’s always a possibility for that. When you say a deeper decline, I would say that means 5 percent or more. We have had an average of one of those per year in bull markets going back to World War II, and recently, we have more than one in any 12-month period. If we take it one step further and look at the possibility of a correction (10 to 20-percent decline, we have one every three years on average. The last time we had one was in 2011, so we certainly could have one this year as well.
I am also reminded that in 2014, we will be in the mid-term election year, which is also coincident with the four-year cycle low. Since WWII, the market has either completed or endured a market decline that averages 20 percent in that mid-term election year. So history says that 2014 could be a bottoming year for anywhere from a pullback to a new bear market. Of course, it’s important to always remember that history is a guide and never gospel.
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