A Few Thoughts As We Say Goodbye To Winter

By Christopher R. English, President of Lumen Capital Management, LLC

If there’s anything Chicago-area residents have learned of late, it’s that winter still exists. The polar vortex came and went, but the snow is still falling even as I type this letter. Regardless of what the forecast shows, February is now almost behind us and winter is slowly fading away. The days are getting longer, spring training marks the return of baseball, and summer clothing now lines the store shelves. In other words, we can hope that better weather is right around the corner, even though we know we still have at least two more months of the usual cold and damp conditions. At the very least, it’s an improvement on what we’ve experienced thus far!

As the seasons outside change, so do the market seasons. Traditionally, there are six good months for investors and six not-so-great months. We’re getting closer to the six months where history shows us that stocks typically struggle, the period from roughly April to sometime in the early fall. Here is a summary of what I’ve previously written about this topic.

The Seasonal Nature Of The Markets

“[T]he reasons I think this pattern works is the philosophy behind how most…institutional money is invested. Institutional money is a generic term for large institutions such as pension plans and...mutual funds. It is managed on a relative basis, usually tied to a specific benchmark, and is also managed so as to not give up the assets. By relative basis I mean, as an example in a market that loses 10%, institutional accounts that go down only 8% are said to have outperformed their peer group. That influences how their portfolios are set up. Institutions generally start a year with similar economic and valuation expectations for stocks.

“Institutions have a very strong incentive to be heavily invested in the early months of a new year. They are afraid to fall too far behind their benchmarks. Their thinking is similar to that of a baseball manager at the beginning of a long season. The manager knows you don't win a pennant in April but you can lose one during that time. As the year progresses and, in particular, if stocks have advanced in the first few months, equities begin to look less attractive on year-end expectations. Stocks will either need unexpected positive news (i.e., better-than-expected earnings news or higher economic forecasts for example) or prices will begin to stall out…

“...Summer is typically a down period for Wall Street as the news flow often dries up (unless it’s bad news. It is amazing how many international crises begin [then]. Both world wars, the Korean War, 9/11, the first Gulf War, and the 2008 banking crisis are examples of this).

“Summer is also when analysts fine-tune their expectations for stock prices as clarity begins to enter the picture about year-end economic activity. Stocks will also begin to discount any lower revisions or negative economic news during this period…Once this discounting process is completed stocks will usually then begin to rally often in the fall. The cynical among us also know that the only print that matters for most money managers is the one shown when the market closes on December 31st. To put it simply, Wall Street wants to get paid so there is a strong incentive to boost share prices during the fourth quarter of the year…”

How Do The Seasons Impact My Portfolio?

The above summary describes the typical pattern we’ve seen over the years for how stock prices trade during a normal year. This pattern was broken in 2018 because the market had a significant meltdown in the fourth quarter. However, from Christmas Eve until now, market indices are up about 20% on average, and we are currently only a few percentage points away from the old September highs. Markets are also very overbought, by my analysis. Given that and given the rapidity of the current advance, there is a possibility that prices might now struggle for a bit. That doesn’t necessarily mean that we’re going to revisit those old lows or that things are going to fall apart, but I do think there is a possibility that we could see the markets reach a point where they pause and digest the big gains we’ve seen over the past two months. 

In light of this, what should investors do? Frankly, I think not much. I may tweak a few things in client portfolios in the coming weeks, but for the most part, I am comfortable with our positions and the way our investments are allocated. Furthermore, nothing changes my view of where we are in this longer-term bull market. On the other hand, if something has changed in your own personal investment situation, then please let me know so we can make sure your portfolio is still in line with your goals and your overall financial picture. Otherwise, consider this a friendly reminder that stocks don’t go straight up forever. 

What’s The Current Market Trend?

Stepping back a bit, if you look at the history of this advance since 2009, you will see a market that has had multiple periods where it staged pretty spectacular advances followed by periods of consolidation that lasted anywhere from a few months to several years. I believe that we have been in one of those consolidating periods. I think this could possibly last for several more months, even into the fall. At that point, I believe the evidence proving that the economic expansion remains intact will be overwhelming and we’ll have a clearer picture on earnings for 2020. That could be an environment more favorable for the next leg higher for stock prices, especially if earnings growth accelerates by then.

Of course, I could be wrong and stocks could continue to rocket higher. I’m simply saying that there is a higher probability now after such a large move in prices over the past few months for volatility to return to the markets and for some sort of corrective force to come calling before the flowers blossom and the trees bud in a few months up here in Chicago. Stocks correct all the time, and this is actually healthy since it wrings out speculative excess. Stocks can correct by time (treading water for a certain period) as well as by declining, so even if I’m correct, nothing says prices have to go down.  

I think the markets have a reasonable probability of retesting their highs from last September and have the potential to be even higher than that by the end of 2020.  However, it is also highly probable that the path to that point won’t be a straight line up, so a period of consolidation would not be that unusual. I figured you’d rather hear it from me and be prepared for it than be taken by surprise. I also hope this makes you feel more prepared for what could happen in the near future. If you are concerned about or have questions regarding where our market sits today and how your portfolio is built to withstand the seasonal nature of the markets, please call my office at 312.953.8825 or email us at lumencapital@hotmail.com.

About Chris

Christopher R. English is the President and founder of Lumen Capital Management, LLC-a Registered Investment Advisor regulated by the State of Illinois. A copy of our ADV Part II is available upon request. We manage portfolios for investors, developing customized portfolios that reflect a client’s unique risk/reward parameters. We also manage a private partnership currently closed to outside investors. Mr. English has over three decades of experience working with individuals, families, businesses, and foundations. Based in the greater Chicago area, he serves clients throughout Illinois, as well as Florida, Massachusetts, California, Indiana, and other states. To schedule a complimentary portfolio review, contact Chris today by calling 312.953.8825 or emailing him at lumencapital@hotmail.com.

*As of this writing I am long SDS in a personal account.  SDS is an ETF that gives you leveraged short exposure to the S&P 500.  I am long as part of a separate individual strategy unrelated to our normal portfolio investment decisions.  This is a very short term oriented position and will be subject to change at any time without notice.

Back Tuesday and Thursday of next week.