Republished from our 6 March 2014 post Update: The market saw a 4% decline immediately after 3 April and did not achieve a new high until 23 May. While the market had a nice summer rally of 5% above the 3 April close, it recently traded only 1% above 3 April’s closing. We expect the market to correct below the 3 April closing prior to a fall rally based on historical patterns and other indicators.
Historically in the spring/summer of the Presidential mid-term, the largest correction of the four-year cycle occurs. It is followed by the largest price advance of the four years beginning in the fall of the mid-term. Take a look at the S&P 500 index since the 1986 mid-term. If you focus on the spring of each mid-term year you see a stutter, correction, or fall with the exception of 2006. You also see how the correction sets up the significant price advance (except after the 2002 carnage).
No one can guarantee that this mid-term year will not be the outlier by continuing to advance through the summer/fall. But I would be surprised to see the significant advance begin in the fall without a correction to proceed it. When I look at the chart above, the only time frame that matches our currently steep trend are the bubble years from 1995 – 1999. During that rise, it was the mid-term year that saw the only significant correction. I do not have a crystal ball, nor does anyone else. But from risk mitigation perspective, this spring is a good time to reduce exposure to equities, enjoy your summer, and look to re-enter in the fall. If we look at our Seasonal Indicator which until most indicators is not a momentum indicator but based on historical patterns, April 3rd is on average the beginning of the mid-term weak season in equities. More important than exact dates, is that this summer/fall is typically weak and risk of large corrections is increased until the fall.
Below is an excerpt from our 2014 Almanac.
As you see, typically April is a strong month posting a total cumulative return of 98.5%. During the last 64 years, the market’s total cumulative annual return was 549.2% (Remember this is a cumulative average, not a compounded return). During the last 14 years, April has remained a strong month, but has posted two thirds of the entire month’s cumulative return in the first 3 days.
But this is not a typical year; it is the mid-term year of the four-year election cycle. In the last 16 cycles, the mid-term’s April performance has been weak. Yet the first 3 trading days have still come in on a positive note. Unfortunately that means the remainder of the month has typically been negative and May has fared worse. Historically, the weak season in stocks starts in May, but as we see during the mid-term year it has started in early April. While the seasonal progression is only one indicator of many, it is valuable in that it has little correlation to other technical indicators. It is correlated only to the historical price progression of the market. And isn’t that a correlation worth watching.