Many generalized ideas about market “patterns”, are mythical when held to the light of data
Soon countless youngsters across the country will be celebrating Halloween. Although the prospect of seeing a scary costume is always present, so too is the fear of a receiving a “trick” over a “treat.”
Similarly, October has long been touted as a scary month for investors. Indeed, during such time they have faced precipitous drops in value in the US stock market. Just consider some of the infamous past Octobers:
- The Panic of 1907
- Black Tuesday (1929)
- Black Thursday (1929)
- Black Monday (1929)
- Black Monday (1987)
In more recent times, we had October of 2008 where the S&P500 dropped over 16%. In October 2018 we faced myriad trade and global financial concerns, resulting in another large-loss month.
Financial pundits seize on these dramatic past Octobers to talk about the “October Effect,” which is the expectation that stocks tend to lose money in October. In reality, this idea, and many other generalized ideas about market “patterns”, are mythical when held to the light of data.
Ironically, over the past 30 years, one of the best months of the year for US stocks, as measured by the S&P500, has actually been October, averaging some 2.3%! In contrast, September has been one of the worst months, averaging a loss of over 1%. Nonetheless, before we start selling in September and buying in October, we must recall that these are simple averages. Over the past 30 years, one month you would have lost over 10% in September, while you would have made over 8% in another.
So why don’t we just buy investments before they go up and sell them before they go down? After much research during my PhD studies at UC Berkeley, I have yet to find a reliable way to do this, especially to the point of being willing to risk money on it.
The good news is that we have found a better and more reliable way: we can employ a variety of investments and strategies to complement global stocks to influence return patterns. This may include managed futures, hedge funds, private assets and option overlays.1 The idea is to have different assets that thrive in different environments: some for when stocks go up, some for when they go down, and some for flat markets. If done properly, it should be the case that most years parts of a portfolio are making money (i.e., some treats!) while other parts are losing money (i.e., some tricks!). We like to share with our clients that we hope every year we have at least one investment losing money. This helps generate smoother, more reliable returns and greater tax efficiency. We have found this institutional-based approach to make October (and the rest of year) a whole lot less scary. In the end, we should actually hope for a trick AND a treat!
Dr. Dylan Minor is the Chief Strategist and founder of Omega Financial Group (https://www.omegafingroup.com/) in Santa Barbara. He has held professorships at Northwestern University and Harvard University. Currently, he is faculty at the Anderson School of Management (UCLA) and Columbia University. He can be reached at dr-minor@www.omegafingroup.com.
[1] Note that most of these strategies and products are not appropriate and not available to all investors, based on levels of sophistication and assets.
Originally appeared at: https://www.noozhawk.com/demystifying-the-october-stock-market-trick-or-treat-a-data-driven-perspective/
