The History of September Sell-Offs

A look at the record for the past 50 years finds a pattern of fourth-quarter rebounds. Will this tough year follow?

By Sam Stovall

The 17.6% price decline for the Standard & Poor's 500-stock index during 2002's third quarter was one for the record books. It ranked as the second-worst third-quarter performance for this market benchmark in the past 50 years -- and among the five worst of any quarters during that period.

September's performance was no box of chocolates, either. The S&P 500 posted an 11% decline -- the worst showing for this month in more than 25 years. The large drop was yet another example of September's standing as the toughest month for the S&P 500, and the only one in which the overall market posted an average decline in the past 30 years.

What's behind the recent carnage? A veritable laundry list of worries:

Weakening consumer confidence: Declines in recent surveys may point to a spending slowdown, which would cause the recovering U.S. economy to slip back into recession.

Lagging business spending: A revival in capital investment would offset a consumer spending decline, but the U.S. will likely have to wait until 2003 before business picks up the pace.

Valuation validation: Skepticism persists that overall corporate earnings won't begin recovering during the second half of 2002, thus making still-lofty market valuations less justifiable.

War jitters: The market remains concerned that a U.S. or U.N. invasion of Iraq could disrupt oil supplies, force up energy prices, and possibly push the economy back into recession.

With all the economic, market, and geopolitical uncertainties, investors headed for the exits in droves. But does the dismal performance for the month and the quarter indicate further damage ahead? Not necessarily, according to history.

The shows the 10 worst performances for the S&P 500 during third quarters in the past 50 years (figures exclude dividends), the September results for those quarters, and the market action in the subsequent Octobers and fourth quarters. Except for 1998, each of the Septembers posted sharp declines. (In 1998, the carnage, led by concerns over technology earnings, forced the S&P 500 into a tailspin in August.)


  What this table clearly shows is that if the S&P 500 were to mirror history this time, the chances are good chance for a bounce-back in October. An even greater likelihood is that the market will recover some of its recent sell-off during the remainder of this year.

But history can reveal only so much. From a more credible fundamental standpoint, S&P believes investors have several reasons to be modestly optimistic. First, if an armed conflict with Iraq occurs, it isn't likely until well into 2003. By then, either the U.N. and Iraq will have reached arms-inspection terms, or share prices will more than reflect the economic impact of the conflict.

Second, we believe the economy isn't at risk of falling back into recession. In fact, we at S&P see real GDP rising more than 3% during the second half of 2002, after experiencing a slight slowdown during the second quarter, and then posting a 3.7% gain for all of 2003. Even though business spending is expected to decline 5.3% this year, we project it to rise 6.5% next year, with a hefty 9% advance in equipment spending. And while consumers may not be the main drivers of 2003's expansion, they'll certainly continue to do their part: S&P expects consumer spending to increase 3.2% both this year and next.


  And finally, S&P sees corporate earnings beginning a multiyear climb from their now-depressed levels. The S&P 500's "as reported" earnings fell more than 50% in 2001 from 2000. And even though S&P expects earnings to rise more than 20% in 2002 and 2003, it will likely take until 2005 before "as reported" earnings exceed those of 2000 once again.

Where should investors be looking now? S&P continues to recommend overweighting the Consumer Discretionary, Consumer Staples, Energy, and Materials sectors. (An overweight ranking means investors should increase their exposure to a sector.) We suggest underweighting Information Technology, Telecommunications, and Utilities.

Market Performance after the 10 Worst Third Quarter Sell-Offs (S&P 500)

  Month 3rd Qtr. Oct. 4th Qtr.
Sept., 1974 -11.9 -26.1 16.3 7.9
Sept., 2002 -11 -17.6 ??? ???
Sept., 2001 -8.2 -15 1.8 10.3
Sept., 1990 -5.1 -14.5 -0.7 7.9
Sept., 1975 -3.5 -11.9 6.2 7.5
Sept., 1981 -5.4 -11.5 4.9 5.5
Sept., 1957 -6.2 -10.4 -3.2 -5.7
Sept., 1998 6.2 -10.3 8 20.9
Sept., 1966 -0.7 -9.7 4.8 4.9
Sept., 1986 -8.5 -7.8 5.5 4.7
Average -5.4 -13.5 4.8 7.1

Stovall is chief investment strategist for Standard & Poor's

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