U.S. stocks are seen rebounding after worst October in 5 years if this historical trend holds

By Joseph Adinolfi

U.S. stocks capped off their worst October performance in five years on Tuesday, while clinching a third-straight monthly loss, the longest such streak since March 2020.

That doesn't exactly inspire confidence following the weakest start to a bull market in some years.

But amid the gloom, some on Wall Street are holding out hope for a turnaround during the final months of 2023, even as high Treasury yields and the outbreak of war between Israel and Hamas continue to undermine demand for riskier assets like stocks.

'Tis the season

Many are basing their optimism, at least in part, on a reliable historical pattern which shows that stocks typically see their strongest performance of the year during the final three months.

"Pervasive pessimism, along with a still positive technical trend in the US and favorable seasonal patterns soon kicking in, reinforces our belief that it's too early to give up on the stock bull market," said Chris Konstantinos, chief investment officer at Riverfront Investment Group, in commentary shared with clients.

While past performance can never guarantee future returns, the S&P 500, Nasdaq Composite and Dow Jones Industrial Average outperform during the final three months of the year, according to a Dow Jones Market Data analysis of average calendar-year performance.

Over the years, this tendency has helped inspire the investing mantra "sell in May and go away," whereby investors ditch stocks during the summer months, only to return in September or October to catch the year-end wave.

Furthermore, the case for stocks to rise in November and December looks even more compelling when the S&P 500 index has fallen during August, September and October, as it has this year. Prior to 2023, this had only happened five times going back to 1950 -- 1952, 1957, 1977, 1990 and 2016.

During each of those years, the index climbed in November. And with the exception of 1957, it continued to rise in December, according to an analysis of FactSet data by Carson Group's Ryan Detrick.

Stocks are already showing signs that the bottom might be in. Since entering correction territory on Friday for the first time since December, the S&P 500 has recovered some ground. It's now down just 8.6% over the past three months.

While this drop has been difficult to ignore, Detrick noted that the S&P 500 typically sees a 14.3% pullback from peak to trough during the average calendar year. In his view, that lends more credence to the notion that stocks are turning higher once again. And he's hardly alone.

"After the type of pullback we've had, November is supposed to be the best month, that's what seasonality trackers say," said John Stoltzfus, chief market strategist at Oppenheimer. "Somewhere between a 4% and 6% rally would not seem unreasonable to us," he said during a phone interview with MarketWatch.

Stoltzfus on Monday revised his year-end target for the S&P 500 back to 4,400. By comparison, the S&P 500 finished October at 4,193.80, according to FactSet data.

Stocks look 'oversold'

To be sure, bulls can rattle off plenty of other factoids to support their view.

These include closely watched indicators like the relative strength index and popular sentiment gauges like the American Association of Individual Investors sentiment survey are two such examples.

The AAII's latest findings showed investors haven't been this bearish since May. Sudden swings in sentiment are often interpreted as a sign that investors are growing too pessimistic or too optimistic, which could portend a reversal to come.

Bank of America's Bull & Bear Survey, another popular sentiment indicator, dropped to 1.5 late last week, a level that reflects "extreme bearishness." It's the lowest reading for the survey since November 2022.

Meanwhile, the relative strength index or RSI for the S&P 500 dipped below 30 late last week, passing the technical indicator's threshold for "oversold" territory, according to Sam Stovall, chief investment strategist at CFRA, and others.

Even if the selloff continues, stocks likely wouldn't need to fall much further before finding support. Demand would likely reemerge close to 4,050, according to a team of strategists from Bank of America, since that level roughly represents a 50% reversal of all the gains that followed the index's closing low from Oct. 12, 2022.

U.S. stocks finished higher on Tuesday, the final trading day of October. But they still finished with sizable losses for the month, with the S&P 500 SPX down 2.2%, while the Nasdaq Composite COMP fell 2.8%. The Dow Jones Industrial Average DJIA gained 123.91 points, or 0.4%, on Tuesday, but fell 1.4% during the month.

-Joseph Adinolfi

This content was created by MarketWatch, which is operated by Dow Jones & Co. MarketWatch is published independently from Dow Jones Newswires and The Wall Street Journal.

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11-01-23 0601ET

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