Bull markets are bullish

Last month saw the first positive September in five years and the best September for stocks since 2013, with the S&P 500 rising 2.1% on a total-return basis, no mean feat in the seasonally weakest month. It was also the fifth straight positive month and the tenth of the last 11. Year-to-date the S&P 500 is up 21% through September, the ninth best since 1950. Going back to 1950, it’s common to see some rough sailing in October after a start to the year like this. Seven of the other top 10 January-September years had negative returns in October, with a median 2% loss—which would pretty much bring us back to the level at the end of August. Historically, October has witnessed 34% more volatility than the average of the other 11 months. And then there’s the election; in election years going back to 1950, October tends not to be a standout month. As for breadth, 66% of NYSE stocks are above their 200-day average. However, the percentage of large cap tech stocks in an uptrend is its lowest in 18 months, while only half of small cap tech stocks are trending higher. By some lights, the equal-weighted S&P 500 looks better than the Nasdaq 100 for the first time since early 2023. And now, earnings season is on deck. S&P 500 Q3 earnings growth has been revised down to 3.2%. Downward revisions are common enough, but it’s a bit of a concern since, with the indexes at or near highs, earnings growth would be essential. Seasonality, the election, earnings, geopolitics—can this month catch a break?

The suspension of the East Coast dockworkers’ strike looks to be a lucky break for the Harris campaign. President Biden did not want to invoke Taft-Hartley to stop the strike, but his administration might have been blamed for the disruptions a prolonged stoppage would have caused. The sides now have until January 15 to make a deal. Had the dockworker strike dragged on, the market would have been caught flat footed, for it was a risk that was not priced in. The Middle East presents another such risk. Israel has not (at this writing) responded to Iran's missile attack. An Israeli attack on Iran's oil infrastructure could be destabilizing within Iran (hyperinflationary even) and in the world at large. In case of such an attack, Iran could potentially counterattack against the facilities of rival producers such as Saudi Arabia or other Gulf states. Oil prices have rebounded somewhat lately but remain well below levels seen as recently as August. The risk of such a hit to the oil supply is not priced in. We shall likely soon see the course that Israel chooses. Two other things that aren’t priced in are early October’s typically weak seasonality and a slower decline in rates, where previous patterns may be prove misleading. After all, usually the Fed cuts after trouble has begun and then it’s in a hurry to decrease rates quickly. If we are in a soft landing, the Fed may take its time—yet the market currently expects rates to be more than 50 basis points lower by year end.

With 2025 right around the corner, investors are trying to figure out where we “are.” When the Fed cuts and we’re not in recession, seven out of seven times the S&P 500 has been up both three and six months after the first cut. (As long as we’re not in recession, those are spectacular odds!) Arguably, the expected pace of rate cuts is too aggressive without a recession and not aggressive enough with one. The weak quits rate in the JOLTS data may be cause for worry that animal spirits are missing from the labor force. Maybe China’s stimulus will help? Six out of seven times that their credit impulse measure expanded the S&P 500 rose, with a median return of 15%. (More good odds!) On balance, many investors believe that the Fed cutting and the conclusion of the election will power the market and the economy forward once we get past October. Wage growth looks modest, which will let the Fed keep cutting—something that will help everybody, especially names that aren’t Magnificent Sevens. Barclays sees no more than a 10-15% likelihood of recession appearing in the next two years. (Now, these are the kind of people I like to be around!) Still, consumer income will suffer if future months can’t keep up this rate of job growth. And earnings growth remains a challenge. For 2025, expected S&P 500 earnings of $280 (a 15% growth rate), would require the highest earnings per share margin on record for the index. And double-digit earnings growth in a year when the Fed cut 100 bps has only happened once since 1971, in 1984. That’s not promising, although the last time the economy entered a recession within a year of the S&P 500 rising 10 out of 11 months was 1929. A bull market like this is, well, bullish.

Positives

• As long as inflation stays low The September labor report surprised with its strength, as unemployment dropped to 4.1% and payrolls grew by 254K. The very small dip in unemployment from such strong payroll gains underscores the effect that increases in the labor force are having. On a three-month basis, payroll gains are 186K, below the 200K level that would be too strong. Wage gains were 0.4% m/m. Quits and layoffs both declined. 
• Services are up The ISM’s US services PMI rose sharply in September, gaining 3.4 points to 54.9, well above consensus and its highest level in nearly two years. The pre-pandemic average for the five years ending in December 2019 was 56.7. S&P Global’s services PMI had a solid final September reading of 55.2.
• Sales lots have been busy Light vehicle sales rose to a 15.77 million annual rate in September up from a rate of 15.13 million the month before. Furthermore, the figure might have been higher were it not for Hurricane Helene, which made landfall on September 26. Sales delayed by the storm may help a bit in October—plus, interest rates are decreasing.

Negatives

• Manufacturing is down The ISM’s US manufacturing PMI remained in contraction in September, at 47.2. The employment sub-index fell to 43.9, marking four straight months below 50. New orders improved somewhat but remained below 50. It appears some factories were waiting for the election to bring clarity. Preparations related to the (now suspended) port strike may also have disrupted activity.
• How low do they need mortgage rates to go? Construction spending fell 0.1% m/m in August, against expectations of a 0.2% gain, while figures for June and July were revised lower. Private residential construction fell 0.3% m/m, with single-family spending dropping 1.5% m/m.
• Factories becalmed Factory orders fell 0.2% in August, versus expectations of a 0.1% increase. As for core capital goods, order growth was revised upwards to 0.3% while shipments were revised downwards to -0.1%. Growth in durable goods orders and durable goods orders ex-transportation went unrevised.

What Else

Headline vs. core If oil prices spike, that will directly increase headline inflation. Research suggests that the pass-through to core inflation is modest, however. A 10% oil price shock leads to a 7 bps rise in core inflation in the long run. For an oil shock to make a significant difference to core inflation, prices would need to move well above $100/barrel.

2024 is on fire May through October are reckoned the six seasonally weaker months. So far this year, not so. If the S&P 500 manages to close higher for October, it will be the first time since 1942 (!) that the index ended positive in all six of the weak months.

Gas is cheap? Nobody wants to pay more for gas, but on an inflation-adjusted basis, gasoline is pretty much as affordable to American consumers as it’s been in 65 years. By this analysis, it would take about $5.50 or more per gallon to see demand destruction for gasoline. Hope not to find out!