U.S. stocks have sold off hard in recent weeks, and despite today's relief rally, September is holding strong to its reputation as the “worst month for stocks.” The S&P 500 Index ($SPX) is down around 4% in September, while the tech-heavy Nasdaq Composite ($NASX) is down almost 5%. As we head toward the final hours of the third quarter, the leading equity market indices are on pace to record their worst month of the year, and second consecutive month of losses.
October does not have a good reputation, either, and is associated with the dreaded “October effect” - an anomaly related to the outsized occurrence of crashes in the month. Notably, while the Dow Jones Industrial Average ($DOWI) has gained 0.6% on average in October between 1928 and 2022, according to data from Yardeni Research, 7 of the 10 worst Dow Jones crashes happened in the month of October.
October Effect
Some of the legendary market crashes - like the 1907 panic, the 1929 crash, and Black Monday in 1987 (when the Dow fell over 22% and had its worst single-day crash) - all occurred in October. Amid the Great Financial Crisis, U.S. as well as global stocks collapsed in October 2008 - and more recently, U.S. stocks cratered in October 2018 amid then-President Donald Trump’s trade war and the Fed’s rate hikes.
To be sure, there are multiple such anomalies in the market, including the “May effect" - but there is no analytical basis for most of these effects. In fact, U.S. stocks closed in the green this past May amid a continued rally in artificial intelligence (AI) stocks.
U.S. Stock Market October Forecast: Key Factors to Watch
While the next FOMC meeting will begin on Oct. 31, the policy decision won't be released until Nov. 1. The Fed has lifted its benchmark lending rate to between 5.25%-5.50%, which is the highest since early 2001. Meanwhile, even as markets got a breather from the Fed rate-hike campaign in October, there are several factors that investors need to be wary of going forward. These include:
1. Key Economic Data, Especially Inflation
Some of the recent economic data points, especially the September consumer confidence index, have raised recession fears. Investors should keep a close eye on U.S. economic indicators, including those related to inflation and the job market, as they will set the tone for the Fed’s interest rate policy.
2. China’s Economic Slowdown
China’s economic slowdown has only worsened, and the country’s economic rebound from last year’s COVID-19 lockdowns has been pretty shallow. Along with U.S. economic indicators, investors should also keep an eye on economic data from the world’s second-largest economy - a key market for several U.S. companies, including Apple (AAPL) and Nike (NKE).
3. Don’t Lose Track of Bond Yields
The U.S. 10-year bond yield hit a 15-year high of 4.65% earlier this week, and speaking at CNBC's Delivering Alpha conference, billionaire fund manager Bill Ackman said that yields could approach 5%. In my view, U.S. stocks haven’t yet priced in the possibility of yields rising that high.
4. Student Loan Repayments Set to Resume
Student loan repayments are set to resume in October, and while this should be a positive for student loan refinancing companies like SoFi (SOFI), it could be a dampener for the overall economy.
The looming government shutdown and the ongoing strike among autoworkers might also take a toll on the U.S. economy in the fourth quarter.
5. Q3 Earnings Season Begins in October
The Q3 earnings season will soon begin, with results from sectors like banks and tech set to be especially crucial. The AI stock-driven rally helped catapult markets higher in the first half of the year, and the baton now lies with tech majors to convince investors that the AI boom is for real and not merely a fad.
6. Rising Oil Prices Could Also Pressure Stocks
Investors should also keep an eye on oil prices - because if crude futures (CLX23) strengthen further, it could spoil the calculus for not only the Fed, but also most global central banks. An oil price-driven spike in inflation is probably the last thing that policymakers in most markets want right now.
All of that said, markets will soon start factoring in the 2024 numbers, and analysts polled by FactSet predict a 12.2% rise in S&P 500 earnings next year. After the recent weakness in markets, valuations have also reverted towards historical averages. The forward 12-month price-to-earnings ratio is 18x, which is not much higher than the 10-year average of 17.7x.
Overall, I believe that October could be a volatile month for markets given the macro environment. The baton might lie with corporate earnings to set the tone for markets, and if leading companies can provide a rosy outlook for 2024, it should help propel stocks higher in the month.
On the date of publication, Mohit Oberoi had a position in: NKE , AAPL , SOFI . All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
