Despite a rally over the last few trading sessions, U.S. stocks closed August in the red, with the S&P 500 Index ($SPX) and Nasdaq Composite ($NASX) falling 1.7% and 2.2%, respectively. The fact that September has historically been the worst month for markets likely brings little comfort for investors – and while the caveat remains that past performance is not indicative of future returns, it cannot be denied that market sentiments are currently not as positive as they were a couple of months back. Against this backdrop, investors need to be watchful of the dreaded “September effect.”
Notably, the Q2 earnings season turned out to be much better than feared, even as S&P 500 earnings fell for the third consecutive quarter. According to FactSet, 79% of S&P 500 companies exceeded earnings estimates in the quarter, which is above the 5-year average of 77%. Similarly, 45 S&P 500 companies provided better-than-expected guidance, which is the highest number since Q3 2021.
Top Stock Market Catalysts for September
Here’s what could drive the markets in September:
- Economic data: As earnings take a backseat, economic data could be in focus in September. Investors will look for continued signs of a “soft landing” for the U.S. economy, which is kind of a goldilocks situation – and would mean the economy is slowing just enough to fend off rate hikes, while at the same time averting a recession.
- Inflation: Inflation figures will be in particular focus, as this data point has been a big overhang for markets over the last several months. While annualized inflation eased to 3.2% in July, which is almost a third of its 2022 highs, it was still up from the 3% reading in June.
- Fed meeting: The Fed’s September meeting will be held on Sept. 19 and 20, and according to the CME FedWatch tool, traders see a 93% probability that the U.S. central bank won’t raise rates at the meeting. The optimism runs contrary to Fed Chair Jerome Powell's hawkish stance; he hasn’t ruled out rate hikes at consecutive meetings. During his Jackson Hole speech last month, he admitted that the world’s largest economy is not slowing as much as expected, which could warrant more rate hikes. A negative surprise from the Fed is among the most potent risks for markets in September.
- China’s slowdown: Investors will also watch the latest economic data out of China, as its economic rebound has faltered - which is a risk for companies with sizeable operations there.
- Oil prices and geopolitical tensions: While U.S. stocks closed in the red in August, the energy sector was in the green as oil prices (CLV23) rose during the month. Investors will also keep an eye on the Russia-Ukraine war and any further production cuts by major oil producers, as higher energy prices would only complicate the Fed’s fight against inflation.
- AI announcements: One of the reasons the stock market rally lost steam in August was that investors’ optimism towards artificial intelligence (AI) stocks faded somewhat – which was quite evident when Nvidia (NVDA) stock barely managed to close in the green despite a stellar fiscal Q2 earnings report. In September, markets will look out for more AI-related announcements from tech companies to gauge the potential financial impact of the broader AI pivot on bottom lines.
What Are Analysts Expecting from Stocks in September?
Wall Street analysts are mixed on the outlook for U.S. stocks in September. On one hand, we have Fundstrat’s Tom Lee, who expects the S&P 500 to recoup its August losses this month and reach an all-time high later this year. It would be prudent to add a caveat that Lee is usually bullish on markets, and also expected them to rise in 2022 – which was ultimately the worst year for the S&P 500 since 2008.
Not all analysts share Lee’s optimism, either. In a note titled “September's slippery slope,” CFRA chief investment strategist Sam Stovall said, “As a result of September's track record for benchmark beatings, we remind investors to prepare for the possibility of disappointing results for both the S&P 500 and Nasdaq in the month ahead.”
Why Investors Should Brace for Volatility in September
Overall, I believe that investors should brace for continued volatility in September. Despite the recent fall in markets, valuations are still slightly ahead of historical averages. The Fed, meanwhile, has made it very clear that it won’t let off the pedal on its tightening cycle anytime soon, and will keep rates elevated as long as needed to move inflation back towards its 2% goal in a sustainable way.
Markets made the mistake of underestimating the Fed’s resolve in 2022, and Powell has since dashed their hopes of a “pivot” – or the transition from rate hikes to rate cuts – multiple times. As we head into September, the central bank seems to hold the trump card yet again, and bulls should be watchful of a hawkish Fed whose relentless rate hikes might send stocks lower again.
On the date of publication, Mohit Oberoi had a position in: NVDA . All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
