Each week, we tap the insight of Sam Stovall, Chief Equity Strategist for S&P Capital IQ, for his perspective on the current market.
EQ: With so much uncertainty facing the market and economy right now, many investors are wondering if they can expect a year-end rally. As you noted in this week’s Sector Watch report, December has been historically pretty reliable for long investors. Can you tell us more about its performance over the decades and some possible reasons for this trend?
Stovall: Maybe it’s the optimism of the gift-giving season, the sentimentality surrounding the closing of another year, or just investors switching their focus from earnings projections for the end of this year to the end of next year. Since 1900, December has been the strongest performing month for the S&P 500 whether you go back to 1990, 1970, 1945, 1929, or 1900. It also has posted the highest frequency of rises. So good batting averages combined with high average price performances certainly are an indication that this could be another good month for the market.
Also, I think that investors look forward to the new year because sometimes they just want to get the past year behind them. So by looking ahead, they are now looking out five quarters rather than just one quarter. Usually, investors are more optimistic and project improvements when looking five quarters out, thus switching over and tend to have a more favorable mindset. That’s borne out by the survey performed by the American Association of Individual Investors of their membership, which shows the highest average bullish reading has occurred in December as compared with all other months.
EQ: How have the previous 11 months performed versus their historical averages and frequencies of advance?
Stovall: Actually, the year has been fairly consistent with history. Only February and October had, in a sense, switched positions this year as compared with the norm for the fourth year of a president’s term in office since 1900. What we have seen so far this year is that eight of the 11 months posted positive performances, which is consistent with history. So normally February is down, but it was up this year, and normally October is up slightly but it was down close to 2 percent this year. In general, however, most of the other months were pretty much on target. As a result, we can only guess—because we certainly cannot guarantee—that December will perform in line as well.
EQ: If the December advance does happen, which sectors tend to outperform the overall market?
Stovall: Going back to 1970, the three best performing sectors have historically been Industrials, Materials, and Telecom Services, each advancing more than 2 percent as compared with the average rise of 1.8 percent for the S&P 500. And even though all 10 sectors in the S&P rose on average in December, the three worst performing groups were Consumer Discretionary up 1.6 percent, Consumer Staples up 1.5 percent, and Information Technology up 1.3 percent. Also, S&P Indices sector level data only goes back to 1990, so we computed individual company performances and brought it up to the sector level from 1970 through 1989 to determine the historical performance.
What investors should take away from this data is not necessarily that they should expect these specific sectors to be winners or losers in this December, but rather that it shows sectors on the whole have risen in the month of December along with the market itself, and usually, you end up with a little bit of a deep cyclical leaning, specifically with Materials and Industrials.
EQ: From an economic and fundamentals perspective, what do you think would need to happen (or not happen) for this December to close higher?
Stovall: I assume you’re expecting me to mention those two words. For fans of the old Perry Mason TV show, Hamilton Berger would probably jump up at this point and say you’re leading the witness.
But right now everybody is just focusing on what is coming out of Washington, and I think that Washington could give Shakespeare a lesson in drama. They will most likely drag it out as long as possible, and we probably will have an 11th hour agreement to either allow us to fall off the cliff or postpone falling off the cliff until the new Congress has had the ability to look things over. I don’t think any meaningful change in the tax code will take place this year because there’s just not enough time.
While both parties realize that costs have to be cut, revenues have to be raised, the Republicans and Democrats are also looking for a face-saving agreement that would make both sides happy. Along the way, it will be certainly helpful if the economic data that has been coming in continues to point to an improvement in economic activity in 2013. We don’t want the ground eroding from underneath us with worsening economic data. So if we continue to get the confirmation that we are heading in the right direction economically, then once the fiscal cliff impasse has been resolved, that could allow equity prices to work their way higher.
