You often hear market participants talk about “seasonality” when it comes to what happens next to equities. Stock market seasonality refers to the recurring and predictable patterns observed in the financial markets at certain times throughout the calendar year. These patterns are influenced by various factors such as investor behavior, economic cycles, and seasonal events. Some well-recognized seasonality trends include the January effect, summer doldrums, Halloween effect, and the Santa Claus rally.
Let me preface this piece by saying yes, I do believe in seasonality and repeated patterns throughout time based on where we are in the calendar on average. No, I don’t believe it’s something you can make a decision on alone. It’s just another data point that you should consider when developing an investment thesis.
To that end, I’m seeing certain charts on X make the rounds that make a compelling “argument” that the bottom for stocks is in. This chart shows the year-to-date behavior of the S&P 500 relative to the average path of the S&P 500 over time. The idea in the chart here is that, on average, you would expect the market to rise now because of historical performance.
Sure, it’s possible that we have already touched the bottom. But don’t you think that if it’s so “obvious,” it won’t happen?
Seasonality Can’t Stop a Stock Market Crash
There are plenty of years where seasonality is irrelevant because of exogenous factors, and the largest one of those is the lagged impact of rates hitting right now. Seemingly everyone is suddenly getting bulled up on stocks purely because of “seasonality” even though nothing has changed except where we are on the calendar. If anything, I’d argue this is EXACTLY the kind of sentiment you need to have prior to a rug pull in the very short term. To suck everyone in just before the tail event because that’s how markets work.
I maintain that multiple indicators are screaming about imminent risk. If those indicators all flipped, then yes, I would argue that the risk has faded for now and we are back to a risk-on environment. The issue for me is that we just aren’t there yet. You can have an end-of-year rally starting in mid-November after a large decline between now and then, and it still somewhat fits into the end-of-year seasonality rally. In other words, an end-of-year rally can happen, just from lower levels than where markets are trading today.
I’m also not convinced seasonality matters this year because of the way small-cap stocks behaved, which, if you haven’t noticed, broke the lows of October 2022 just last week. I actually challenged the seasonality argument when it comes to small-caps earlier today.
You can’t selectively apply seasonality to just one part of the marketplace and argue its gospel while ignoring how its failed in other parts of the marketplace this year.
The Bottom Line on Seasonality
I would note also that risk indicators became more negative following last week’s selloff. Utility stocks meaningfully outperformed, the “flippening” out of stocks and into long-duration Treasurys reasserted as the flight-to-safety trade, broad market averages moved below the 200-day moving average, and gold surged in a way that suggests something else is happening with investor psyche.
Everything I do is ultimately about looking at legitimate and back-tested leading indicators to volatility and conditions favoring a tail event.
This is exactly the kind of sentiment and behavior by the crowd needed for such a tail event to happen.
On the date of publication, Michael Gayed did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
