Historians know that September is the cruelest month for the Dow Jones Industrial Average and S&P 500. June and August are the second and third worst months for the Dow, while February and August place and show for the SPX, respectively. October is not as fearsome as its reputation: It is all the crashes that have taken place in the 10th month that make investors so nervous.
Will September hold true to form this year? Well, it's gotten off to a strong start, and I think a retest of the lows this month is unlikely, given the improving volume and breadth.
To be safe, let's look at 10 factors coming to a head in September that are likely to affect trading for the rest of the year:
Volume: As we have noted in the past, low volume is problematic for the bulls. Vacation and the RNC are now over, and so the moment of truth is now upon us. If the teasing gains from last month are to be sustainable, then markets require the active buying of big institutions. We have seen signs of that last week; it needs to continue throughout the month to demonstrate conviction and institutional participation. We will know that's occurring only when substantial volume returns.
Moving Averages: The SPX and the Dow have both managed to climb just above their respective 50- and 200-day moving averages; The Nasdaq Composite, weakened by the semis, is still well below. On Friday, the Nasdaq penetrated 1875, aided by rebounding semis, to get above its 50-day moving average. Next up is a potential move through its 200-day moving average at about 1975.
These moving averages are general signs of healthy markets. It is simply better when the indices are above their moving averages than below. Do not, however, assume that a move above is automatically a buy signal. (RealMoney.com contributor James Altucher has done some nice work on this issue.)
Oil: Oil remains in a long-term uptrend, despite the recent pullback. Until there is a definitive trend break, expect oil to stay much higher than the $30 to $35 barrel OPEC real target. The market has mostly discounted $45 oil, but it has yet to do so for the $50 to $60 range.
I believe that oil's ascent, due in large part to a strengthening Asia and a torrid China, is far from over. If the present trading range of $40 to $50 gets broken to the upside -- as I expect it will -- then an upside target of $55 to $60 late first quarter or early second quarter of 2005 is feasible. That, of course, would be a major negative for equities.
Oil needs to stay below the half-century mark if this rally is to have any legs beyond the next few months.
Dow Transports: The strength of the Dow Transports -- despite oil's rise -- has confounded many veteran market watchers. The Transports rose above their August highs last week, and are now kissing their June highs. For followers of Dow Theory, the Transport's strength is a confirmation of the Dow Industrial's recent rally, which has brought it above its August peak. According to the Dow Theorists, this confirmation produces an intermediate buy signal that is bullish for the next three-to-six months.
Traders should continue to observe the behavior of the Transportation Index, as it is a leading indicator of continued economic expansion -- meager though it may be.
Preannouncements: Third-quarter earnings should be strong by just about any measure -- except for year-over-year comparables. We know earnings gains, on a percentage basis, have cooled off. Are there still enough marginal increases in profitability available for firms to eke out any upside surprises?
The recent economic deceleration is an early hint of a possible rocky preannouncement season. The preannouncement risk is two-fold: Either a spate of bad warnings weighs on the market, or a major blue-chip stock blows its quarter. Either way, an ugly preannouncement period sets the stage for a retest of the lows in October.
The Fed: Behind the curve or out of the loop? That's the question some Fed watchers are asking about the central bank. Should their tightening bias continue, given that inflation appears tame, and the economy has obviously cooled off?
Several economists -- including those who were screaming for the Fed to start hiking rates back in the second quarter -- have now shifted toward begging the Fed for a reprieve. While the Fed may need to step off the brakes eventually, I have no expectation for them to do so at the September meeting. Look to the bias statement for any hints as to what they are really thinking.
Bonds: While the Fed fiddles, the bond market has been burning. Alan Greenspan can talk about moving rates up to fight inflation all he wants -- the bond market has been speaking much more loudly: The 30-year's yield is now below 5%, the 10-year's is under 4.20%.
Barry Ritholtz is chief market strategist for Maxim Group, where his research and market analysis are used by the firm's portfolio managers and clients in the U.S., Europe and Japan. He also publishes The Big Picture, his macro perspectives on the economy and geopolitics, entertainment and technology industries. At the time of publication, Ritholtz had no position in any securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Ritholtz appreciates your feedback and invites you to send it to barry.ritholtz@thestreet.com.
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