By Ross Silver, RIA & Greg Harrison, Esq.

In our last few newsletters Ross and I have focused primarily on the market’s long-term prospects, which I believe are somewhat concerning. This month however, I want to evaluate the market based on a more compressed timeframe. Historically, the best months for the Dow Jones are November through April, and the most challenging are May through October, with August and September being the worst months over the past 20 years. Yet here we sit in the first week of October, and the S&P and the Dow have risen in each of the past five months (including September), and the NASDAQ has risen in four of the last five months.

What gives?

For starters, stocks typically perform well during the first 6 months of a presidential cycle, and if stocks perform better than average in the first six months, then 75% of the time they outperform during the second 6 months. So far stocks have continued that trend. Additionally, the CBOE Volatility Index (often referred to as the VIX or “fear index”), is trading at record lows for the period. Despite the uncertainty in the geopolitical arena, the market remains tranquil. The VIX is currently at 9.41, and according to market analysts, it’s usually around 20+ before the S&P is in danger of a significant correction.

Additionally, the dollar is weak which means U.S. based multi-national companies are able to sell products inexpensively overseas which drives revenue growth. According to David Kostin, Chief U.S. strategist at Goldman Sachs, S&P 500 companies generate as much as one-third of their total revenue from international sales, so the weak dollar acts as a significant revenue catalyst. Then of course there’s President Trump’s proposed tax reform, which is another potential boon to corporate profits. Though the fate of tax reform remains largely uncertain, if ratified, the tax reform could add as much as $180 billion to S&P company earnings.

But we’re not out of the woods just yet.

For whatever the reason, over the past three decades October has been a particularly ominous month for the market in years that end in the number 7. October 19, 1987 was “Black Monday”, when the market plummeted than 22%, which is still the largest single-day percentage decline on record. On October 27, 1997 the DOW dropped more than 12%, and the most recent financial crisis began on October 9, 2007. Now in October of 2017, with stocks at all-time highs and the world seemingly politically unstable, we’re due for a big correction right?

I don’t think so. Why? It’s the contrarian in me. Everything is set up so perfectly for an October correction, that a market crash wouldn’t be a black swan, and I’m all about black swans. Notwithstanding a significant geopolitical event, I believe the market will make it through this October just fine.

For the sake of clarity, this article doesn’t represent a departure from my long-term thesis, which is that the market is positioned for a significant pullback. In fact, according to Warren Buffet, a general proxy for determining if the market is over-priced is when the value of all stocks exceeds the value of the country’s economic production. Right now, the value of all equities in the Wilshire 5000 (a representative sample of the entire stock market) stands at approximately $26 trillion. That’s more than 135% of the country’s gross domestic product. This discrepancy is even greater than it was in the months leading up to the crashes in 2000, and 2007. It’s also worth noting that Berkshire Hathaway Inc. has amassed a record $100 billion in cash, which is quite a dubious omen considering Buffet is on record stating that he dislikes holding cash because it inherently decreases in value over time.

Other market indicators, such as the relative strength indicator, are also signaling that the market is overbought. Additionally, the Rosenblatt Security Report cited that 10 of the last 13 tightening cycles have resulted in a recession. The Fed began its latest quantitative tightening cycle in December of 2015, and we could get another rate hike this year and possibly three ¼ point rate hikes next year. We will keep an eye on the yield curve going forward to see if it flattens out, because that could be an arbiter of a forthcoming recession.

So my long-term thesis remains cautious, but if we make it through October without a significant correction, I think the market will continue to perform well over the next 4-6 months.

Ross’s What Have You’s

I am still looking for a good title for this section, any ideas, send them our way: October is a very important month in the world of sports as football is in full swing, baseball is in the playoffs, both basketball & hockey start and last but not least, the final prep races before November’s Breeders Cup at Del Mar have been run. As you all know I am a gigantic horse racing fan and am very excited about the Breeders Cup being run at Del Mar this year. Del Mar has many nuances that can lead to the track to become biased for a a handful of races and then the bias can swing the other way. It will be very interesting to see how some of these horses who ship from the East Coast adapt to the Del Mar surface which is demanding physically and often results in gigantic prices. More on the Breeders Cup next month before the races, which I cannot wait to see!

The college football top 10 landscape seems to be ever changing on a weekly basis and teams that should not lose, have lost and teams that should be dumpster fires are surprising the so called pundits. The Iowa State & Troy victories over Oklahoma & LSU are both examples of how weird college football has been this year. As I see it, Bama, Clemson, Ohio State and Washington (sorry Big 12) look to be the four teams headed for the playoffs and those of us who put money on Ohio State in Las Vegas in August are hoping Ohio State does not see Bama in the semifinals. Bama looks very beatable, Clemson does not, Washington is blessed to be in an awful conference and Ohio State is also in an awful and overrated conference. On a positive note, the Miami Hurricanes are undefeated and played in the most exciting game I hve seen all year when they took down FSU, in FSU, snapping a 7 yer losing streak! The Baby Canes rise is real…I hope!

Have a wonderful month and our thoughts and prayers are with those who have been affected by the various nature related storms & fires as well as those of you in my second home, Las Vegas.

Disclosure and Declaration

Greg Harrison, the co-author of this article is an independent contractor. Greg was compensated by Sylva to co-author this article. He owns, or his family owns, shares of the following companies mentioned in this article: None.

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