There was a private dinner a week ago in New York City, hosted by the Wall Street Journal. Many past administration people and foreign dignitaries attended. A group of business leaders attempted to hash out the latest on climate change, AI, and politics (I’m sure the conversation was completely unbiased and riveting!). But what seemed to worry the politicians and others as much as anything else wasn’t the financial markets, but instead the current state of mental health. Globally, namely following the COVID pandemic, depression and mental illness have been devastating.
Yes, it is safe to say that more Americans than ever have issues related to mental health or believe that they do or both. According to a Gallup survey, more than 18% of US adults report currently having, or being treated for, depression, up some 8% since 2015. While mental health is improving at American universities, according to a University of Michigan study, some 37% of students received therapy or counseling in the past year, and 30% took psychiatric medication! I bring this up to stress the point that everyone is looking for answers, but some things just simply take time and will always be different!
One thing that isn’t different is history. The most recent historical factoid I find of importance is the Rosh Hashanah to Yom Kippur holiday. Median return from Rosh Hashanah to Yom Kippur holiday has been negative since 1928. The sudden about-face right at the beginning of the Autumn Equinox period isn’t particularly surprising from a seasonal perspective in my view and also lined up right with the start of Rosh Hashanah. The table below, going back since 1928, does show a minor negative bias during this period. However, I am suspecting that weakness proves short-lived before S&P starts to push back to highs in the coming weeks. As shown below, the median return during this period tends to be better in non-recession years. Thus, I’m not expecting much further weakness this month, and S&P should remain above mid-September lows.
Returns following Yom Kippur can normally be quite good
The data since 2000 shows a more negative return from Rosh Hashanah to Yom Kippur than was seen from 1928 but also shows a very positive period thereafter. The forward returns below are shown on a 1-month, 3-month, 6-month, and 12-month basis.
According to the famed technology analyst, and portfolio manager, Dan Ives at Wedbush, "While the bears will fret about valuations and have been skeptical of the historical tech rally, we stress that if you focus solely on valuation looking out a year with P/E...you would have missed every transformational growth tech stock the last 20 years."
There seems to be a monstrous tug-o-war between:
- Labor- The effects of which DOGE, immigration, and AI have had on hiring, skilled and unskilled labor, unnecessary US Government jobs, and a elimination of many jobs due to computers and robotics.
- Tariffs- There is currently a complete disagreement as to who is on the hook for US Tariffs. The latest tariffs are still quite new. But by looking at various data series, from aggregate hard data, sentiment, to company statements, we’re starting to get a feel of which party is paying the cost. So far it appears that foreigners on balance aren’t paying for the tax. Instead, US consumers and businesses are paying for the tariffs, with the latter absorbing the larger share for now. This falls in line with the view that near-term inflation is tilted mostly to the upside, along with pressure on company margins.
- AI- Since this technology has never been seen or measured, the current and ultimate effect on businesses, their productivity and profit margins, as well as a complete change in hiring practices and elimination of jobs (and all the costs associated with them) has yet to be fully understood and measured. Currently, AI is seen as dramatically deflationary. Companies that use AI have seen an increase in margins and profitability. Many are wondering if this technological advancement is acting as a counterbalance to the negative inflationary effects of the tariffs.
- $7.7 Trillion in cash- This is an almost inconceivable amount of cash on the sidelines in the US alone. Besides creating an unfathomable amount of purchasing power, this doesn’t even take into account how much is outside of US borders, again adding to an immeasurable amount of consumption by businesses and individuals.
- GDP growth- just last week the street was looking for second quarter GDP to increase by 3.3%, and it came in up 3.8%. Seemingly not a huge difference, but with government firing, immigration and deportation and the Fed’s cutting of short-term interest rates, this surely should cause a pause in the Fed for the future interest rate cuts that were being expected into year end.
Labor seems to be the biggest issue in the media’s craw at present. At the very least it suggests that the labor market is not a source of upward inflation pressures, at this time. The risk of further widening in the unemployment gap nudged the Fed to resume rate cuts, as was widely expected last week. High political policy uncertainty, AI, and tariffs have stymied private sector labor demand this year. At the same time, DOGE and broader efforts to restructure the federal workforce have added salt to the payroll wound, as federal government payrolls declined for the seventh consecutive month in August. The shedding is likely to continue in the months ahead as laid off workers who receive severance pay are still counted as employed but likely to roll off the payroll count by year-end. I am somewhat suspect of this issue as many of these Government employees were remote employees and were working other side gigs while getting their public employee salaries and benefits.
The biggest drag on labor supply this year has been coming from deportations and ICE raids. The foreign-born labor force (legal and illegal residents, plus naturalized U.S. citizens) is nearly 33 million workers, or about 1/5 of the total labor force. It has declined by an estimated 1.5 million since March. In August alone, the foreign-born labor force shrank by 810,000 workers from a year ago, a pace that was last seen during the pandemic, and exceeded the cyclical decline during the GFC. It is said that deportees are unlikely to return to the US, making the foreign-born labor force decline permanent, but I believe that there will be some type of agreement put in place with both our Southern and Northern neighbors to allow this workforce to return given certain stipulations on criminal records and sponsorship by domestic employers. They came to the US as the land of opportunity, and this should not cease, it should instead be permitted while at the same time making sure that solid immigrant citizens are responsible for paying their fair share of taxes and social security as others currently do.
While massive tech layoffs hit 150,000+ workers in2023-2024, successful entrepreneurs built lasting value. The ability to code, create, and raise money is growing rapidly, which will eventually create more jobs which will outnumber the volume of jobs destroyed. But in the meantime, expect escalated demand for energy which is the lifeblood for AI computing.
Overall, $1 Billion a day is being invested into AI, growing to > $3 Billion per day by 2030. The leading AI-related names continue to trend higher which explains the Magnificent 7 as it is the field that is exploding while traditional employment is shrinking. Incidentally, this could be part of the reason for the miscalculation by economists for Q2 GDP, which was largely underestimated.
The latest quarterly GDP data confirm the economy rebounded in the second quarter after a monumental surge in imports at the start of the year, when companies were racing to stock up ahead of Trump’s Tariffs. The third quarter is also looking solid, with rece3nt reports illustrating resilient consumer spending and business outlays for equipment. Separate data for the month of August released Thursday of last week showed orders for business equipment increased at a solid clip while the trade deficit narrowed by more than forecast. The Fed’s preferred inflation metric, the PCE (personal consumption expenditures) has been exceedingly strong and may limit the extent to which the Fed can continue cutting interest rates.
The equity market remains robust so far during September, government bond yields behaving themselves, and global economic surprises positive, are we set for a strong end of the year? Or are investors being overly optimistic and positive? We have reached the point where any down day now feels like a big deal. While Tuesday's session did see some weakness, the only real difference was that it finally showed up in the large cap averages. As mentioned over the weekend, the broader market was already getting a little soft recently even though you'd never have known it just looking at the indices. The stock market has navigated the weakest time of the year well so far. The S&P 500 Cycle bottoms in late September, yet, the S&P 500 hit a record high as recently as September 22 and has not endured a correction of more than 3% since April 21. The bottom line is the demand for U.S. stocks that has driven the rally has not shown many signs of slowing. If the market has taught investors anything in recent years, however, it is that liquidity is a coward. The coast is not completely clear seasonally. The Cycle Composite combines one-, four-, and 10-year patterns. The one-year cycle remains on the defensive deep into October. See history below going back to 1925 showing October seems to be defensive:
I also wanted to share an update to the normal seasonal tendencies going back to January with the current year overlayed in a dotted line. I show this often, so I felt an update would be helpful:
So far in September, 13 out of 17 sessions have had less than ~50% of NYSE operating companies advance, and only three of those days have had more than 55% of NYSE companies rise. Coming into Tuesday of last week, only 43% of the NYSE was above the 10-day moving average as a result. It isn't too much of a stretch, therefore, to suggest that there's been a stealth correction underneath the market's surface this month, albeit a mild one. Going back to 1925, seasonality from normally negative Septembers tends to be quite positive. Here is how the average lays out for every month going back in time with the arrow showing that the end of the year tends to be a period of acceleration upwards:
The reasons why late September and early October tend to be bad, I believe harkens back to the end of the year measurement period for mutual fund manager bonuses. Many mutual funds use the end of October as their measure of how to bonus managers for their performance for the year. So, if a money manager has had a good year up to October, and this tends to be a period of historically tough performance, it wouldn’t seem out of line for them to take profits and book their gains and hedge their portfolios to lock in a tasty bonus.
Everyone was looking for it
While seasonal indicators rarely are trusted as truth rather than an expected rhyme, we do respect that the ebb and flow of the market follows regular patterns and highlight seasonality when relevant.
Not all strategy firms focus on seasonality. So, when we see a correction on the basis of the calendar, we wonder how much is priced in. This year, the post Liberation Day crash and rebound were so quick that many investors failed to fully get back in. The consensus call may have been to look for a pullback. With earnings, the Fed, and the economy friendly to the markets, seasonals were perhaps the next best reason.
The lack of enthusiasm is reflected in the NDR charts above are shocking. Despite record highs in the S&P 500, DJIA, Nasdaq, and Russell 2000, the composite of over two dozen sentiment indicators has been neutral since July 29. Last week I even put in the chart of the AAII numbers. Still, these numbers reflect the negative bias to the individual investor. This begs the question of when individual investors capitulate to the positive side will this mean an end to the advance? Only time will tell!
In closing I thought I would share a couple of photos of our end of summer trips. It is nice when the markets are going to new all-time highs, and I can enjoy a bit of time off as well!
Hope you are all preparing properly for Halloween, hopefully Mr. Market continues to give us treats instead of tricks.
- Ken South, Tower 68 Financial Advisors, Newport Beach
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