MONEY stocks

October Can Be Frightful for Stocks. But It Can Also Be Fruitful.

THE DARK KNIGHT RISES, Tom Hardy, 2012.
Ron Phillips—Warner Bros/Courtesy Everett Collection

By reputation, October is the scariest month on Wall Street. In reality, this month tends to be either very good or bad for the market. Which one will it be this time around?

This story was updated on Oct. 15, 2014

Is the Ghost of October Past haunting Wall Street again?

By reputation, October is the market’s scariest month. Six years ago, October witnessed several knee-buckling plunges during the financial crisis — an 8% drop on the 9th, an even-bigger 9% fall on the 15th, followed by a 6% slide on the 22nd.

Go back further, to the Asian currency crisis, and the Dow plunged 554 points on Oct. 27, 1997. Go back further still, and there was Black Monday, when the S&P 500 fell 20% on Oct. 19, 1987. And don’t forget that the stock market crash that set off the Great Depression will commemorate its 85th birthday at the end of this month.

At first blush, this October seems to be trying to join this list.

On the last day of September, the Dow Jones industrial average had climbed as high as 17,145. Two weeks later, the benchmark index was more than than 800 points lower, thanks in part to fears over the slowing global economy, escalating Mideast violence, continuing Russian conflict, and quite possibly the spreading Ebola virus.

Yet October gets a bad rep, and some market observers think this could be a buying opportunity.

While October may be pockmarked with a minefield of securities devastation, history is also filled with examples of strong Octobers for the S&P 500, according to the Stock Trader’s Almanac. Among them: 1966 (up 5%), 1974 (16%), 1998 (8%), 2002 (9%), and 2011 (11%).

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Plus, when you average out historical performance, this autumnal month isn’t so shabby.

In fact, if you look at each month’s returns from 1988 to last September, October turns out to the third best-performer on average, behind December and April. The S&P 500 has gained at least 3.8% in three of the last four Octobers, according to data from Morningstar.

Liz Ann Sonders, chief investment strategist for Charles Schwab, noted that while some investors might be taking profits after a sustained run up for stocks, “we don’t see anything that indicates a more sustained downturn is in store.”

In a note published online, she added:

“We are entering a traditionally positive period seasonally for stocks. According to ISI Research, since 1950, December and November have been the highest returning months of the year, on average. Additionally, according to Strategas Research Group — also since 1950, in midterm election years — October has been the best performing month, followed by November and December. The recent selling we’ve seen could just be setting up for a nice year-end run.”

So is Sonders right? Will this October turn out to be a treat for Wall Street? Or will it just be one big trick?

MONEY Markets

Why You Should Start Preparing for the Next Market Crash

End of the railroad tracks
Pete Ryan—Getty Images/National Geographic

Today’s valuations aren’t to be taken lightly – here’s what you can do.

Several phrases call to mind the dot-com boom and bust, but one of the most recognized started with a 70-year-old man in a bathtub. That man was writing a speech, and he came up with the term “irrational exuberance.” The speech was broadcast on C-SPAN, and stock markets around the world dropped a few percentage points the next day.

That suds-soaked soothsayer was Alan Greenspan. On Dec. 5, 1996, he delivered a speech he called “The Challenge of Central Banking in a Democratic Society.” He said, “But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?”

Greenspan didn’t say those famous two words (of the 4,322 he uttered) until he was more than three-quarters through his speech. But they’re the only words people remember.

The phrase gained further fame after Yale professor Robert Shiller wrote Irrational Exuberance, a book that explained how stocks were significantly overvalued. The book was published in 2000 in the same month that the bubble began to deflate. Shiller published a second edition in 2005, this time arguing that the housing market was historically off-the-charts overvalued. We all know how that turned out.

But I’m not talking about the history of “irrational exuberance” just for the joy of making you think about Greenspan taking a bath. I’m bringing it up now because Shiller is once again saying that stocks are overvalued.

What’s Next In This Series?: 1929, 2000, 2007…

Beyond his books and the Case-Shiller housing index that he co-created, Shiller is known for the cyclically adjusted price-to-earnings ratio, also known as the CAPE or the Shiller P/E. Rather than relying on just one year’s worth of earnings to measure a P/E, the CAPE uses an average of the past 10 years’ worth of earnings, adjusted for inflation.

So what does the CAPE say now? It’s at 26.3, according to an interview published Sept. 5 by British website This Is Money. “There’s only three major occasions in U.S. history back to 1881 when it was higher than that,” Shiller said. “One is 1929, the year of the crash. The other is 2000, which I call the peak of the millennium bubble, and it was also followed by a crash. And then 2007, which was also followed by a crash.”

Before You Hit the “Sell” Button…

That sounds ominous, but know that Shiller’s research indicates that the CAPE is highly correlated to the stock market’s return over the next 20 years — not the next year. The ratio was very close to today’s figure when Greenspan mentioned “irrational exuberance” in 1996, and the market kept rising for more than three years. Plus, as Shiller pointed out in the interview with This Is Money, although the market eventually crashed after the three times the CAPE reached these levels, that’s not a large sample size, statistically speaking.

Still, today’s valuations are not to be taken lightly. At The Motley Fool we are known for our “buy and hold” investing approach — even sometimes saying that we plan to hold on to great companies “forever.” But we know that “forever and ever” isn’t realistic for everyone.

You’re probably investing today to pay for something in the future, whether it’s retirement, a vacation home, or a family legacy. That means you have to sell sometime. And if that sometime is soon — as in, the next few years if a significant market decline would imperil some important plans you have — now may be a good time. Rebalancing your portfolio and playing it safer is a reasonable strategy when the market is overvalued.

Shiller and I aren’t saying that the market can’t keep rising from here. After all, a historically high P/E could fall to a more normal level if profits rise (i.e., the E in P/E) rather than prices crash (a lower P). But the smart assumption is that returns will be be modest.

How Bad Will It Be For You?

When I create a financial plan, I assume an annual return of 6%. But even that may be too high, according to some experts who argue that today’s CAPE implies a future return of 1% to 5%. Returns will certainly be on the lower end of that scale after you throw some cash and bonds into the investment mix. At that point you’re looking at a portfolio that will struggle to simply keep up with inflation.

But it doesn’t have to be that bad for you. Remember, the CAPE estimates of implied return is for the overall market, which is dominated by large-cap stocks. A few smart tweaks to your portfolio can make all the difference. Throw in some small caps, international stocks (Shiller thinks the U.K. market could be a bargain because it’s below its long-term average CAPE), and prescient stock picks, and I think you can do a lot better. Then keep your spending in check and your savings high. And when you start to feel anxious, take a long, soothing bath. Just make sure Greenspan has hopped out beforehand.

TIME Economy

The Worst Stock Tip in History

Stock Market Crash
Messengers from brokerage houses crowd around a newspaper in New York City on October 24, 1929. New York Daily News Archive / Getty Images

Sept. 3, 1929: The market reaches its highest point before the Great Depression

At this time 85 years ago, Yale economist Irving Fisher was jubilant. “Stock prices have reached what looks like a permanently high plateau,” he rejoiced in the pages of the New York Times. That dry pronunciation would go on to be one of his most frequently quoted predictions — but only because history would record his declaration as one of the wrongest market readings of all time.

At the time he said it, in early October, he had good reason to believe he was right. On Sept. 3, 1929, the Dow Jones Industrial Average swelled to a record high of 381.17, reaching the end of an eight-year growth period during which its value ballooned by a factor of six. That was before the bubble began to burst in a series of “black days”: Black Thursday, October 24, when the market dropped by 11 percent, followed four days later by Black Monday, when it fell another 13 percent; and the next day, Black Tuesday, when it lost 12 percent more.

Fisher, consistently bullish, pronounced the slide only temporary.

In his defense, he was not the only optimist on Wall Street. After witnessing nearly a decade of growth, most economists, investors, and captains of industry believed that the market’s natural direction was up. The beginning of the crash struck them not as a sign of financial doom, but as an opportunity for bargains. Following the first of the black days, the New York Times was full of positive predictions: “I have no fear of another comparable decline,” said the president of the Equitable Trust Company.

Many of those optimists, including Fisher, went broke by mid-November, when the Dow had lost nearly half its pre-crash value. Fisher’s reputation likewise plummeted.

He went on to develop a new theory about what had triggered the crash: overly liberal credit policies that encouraged Americans to take on too much debt, as he himself had done in order to invest more heavily in stocks. By then, however, no one was listening. His theory didn’t gain traction until the 1950s, when, years after his death, Harvard economist Milton Friedman pronounced him “the greatest economist the United States has ever produced.” Fisher’s debt-deflation theory found its way into the spotlight again when overgenerous credit lines and huge debts prompted another U.S. market crash — this time in 2008.

Read Niall Ferguson’s comparison between 1929 and 2008 here in TIME’s archives: The End of Prosperity?

TIME Maya Angelou

Maya Angelou’s Arkansas: Dignity and Poverty in the Depression

African American Young cotton picker, Arkansas, circa 1935
A young African American Young cotton picker in Arkansas during the Depression. Buyenlarge/Getty Images

A Depression-era photo from Arkansas puts into extraordinary relief the life Maya Angelou led, and the distance she traveled in her time

Born in St. Louis, Mo., on April 28, 1928, the author Maya Angelou grew up in Stamps, Ark., witnessing the racial disharmony that defined the Jim Crow American South of her youth. There she cultivated the dignity and her own brand of quiet strength that would mark her writing and her activism for the rest of her life.

The picture above, of a young African-American cotton picker in an Arkansas field in the mid-1930s, is the sort of tableau that Angelou would certainly have encountered throughout her time in the South: namely, a child in rags, put to hard work at a tender age. The idea that this might well have been Maya Angelou’s fate — and that it was the fate of countless others — puts into stark relief the life she led, and the distance she traveled.

 

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