Each week, we tap the insight of Sam Stovall, Chief Investment Strategist, CFRA, for his perspective on the current market.
EQ: The S&P 500 endured a steep slide this week, joined by both the Nasdaq and Dow. Stocks looked to stage a bounce on Wednesday, however. Did this look like the type of capitulation that’s needed for a market to find its bottom?
Stovall: No, I don’t think so. The decline that we saw in the Dow, which was around 2%, was less than the kind of sell-off I think that we would need to see. We did not see the VIX spike. We also did not see a tremendous jump in volume. So, in many ways it seemed like just an orderly decline rather than an end-of-correction capitulation, which is what I think we would need before this sell-off is finally over.
EQ: In this week’s Sector Watch, you discussed something that’s likely on every investor’s mind right now, and that’s whether the S&P 500 will be able to close the year with a gain. Assuming this current correction doesn’t fall below the intraday low we saw earlier this year—or even if it does—what are the implications from a historical standpoint that stocks can still close positive?
Stovall: Well, I think it’s interesting that a lot of investors forget that 92% of the time, the S&P 500 experiences a year-to-date loss, meaning that at some point during the year the market has closed at a level below the prior year’s ending value. Yet, more times than not—about 72% of the time—the market has posted an advance on a price basis and has done so in eight out of 10 years on a total return basis.
So, even though we are in the red at some point during the year, we tend to recover by year-end. Of course, a lot of this has to do with when that year-to-date decline occurs. Most of the observations have occurred in January, and if that’s the case, then the market has posted a positive full-year return 100% of the time. If that YTD low occurred in February or March, then 83% of the time the market closed the year higher.
As we proceeded through the year, however, the closer we got to year-end before hitting that YTD low made it ever more challenging to get back to break-even and then some before the year was out.
EQ: So, in essence, the later the low then the less time that market has to work through the sell-off?
Stovall: Exactly, because you need about a month and a half to get back to break-even from pullbacks (declines of 5-10%), and with corrections, it takes on average four months get back to break-even. You need the time to sell-off, but then additional time to get back to break-even. So, the later the year it occurs, the harder it is to wring out a positive return for the entire calendar year.
EQ: There are a number of headwinds working against the market right now, but you’ve discussed before that there could potentially be three catalysts that may help to propel stocks back on an uptrend. Are those potential catalysts still in play?
Stovall: Yes, they are. Through Nov. 20, the S&P 500 was off 9.3% for this fourth quarter, and I think that investors were worried about the Congressional gridlock, ongoing tightening of monetary policy, and the impending peak in earnings growth, which may be exacerbated by trade tensions and the stronger dollar. Yet, history says that more times than not—about 81-83% of the time—after having such a bad beginning to the fourth quarter, the market has risen in price by year-end with the average price change being anywhere from 4% to about 7%.
So, I think that investors will be listening for whispers of favorable what-ifs coming from the moderation in the Fed’s rate-tightening tone, a willingness by the US and China to resume trade negotiations, and the possibility that analysts have become overly sanguine on 2019 earnings growth estimates. Should these more-favorable factors come to pass, then I think that we could end up seeing share prices push their way higher by year-end.
EQ: In the near term, what key levels of resistance and support should we be watching?
Stovall: When you look at the average P/E at the pullback and correction lows for the last five times that we’ve had market sell-offs, it’s been about 15.3. So, if we were to get a similar P/E of 15.3 as a result of the current sell-off, it would probably push the S&P 500 down to about 2,550. This also matches up with a technical consideration that our technicians are looking for the S&P 500 to drop to support between 2,532 and 2,553.
There could be resistance if we do see a bounce off of that level at up around 2,714 to 2,746 level. So, yes, we do have some support around 2,550, but then we won’t be able to do a straight moonshot to new all-time highs. We will have to break through overhead resistance, which might become a bit challenging.