Jon Vialoux, research analyst at CastleMoore Inc.
Focus: Technical analysis and seasonal investing

MARKET OUTLOOK

So much for “sell in May and go away.” The total return of the S&P 500 Index is over 10 per cent since the start of May and volatility that’s common for this time of year has been largely absent. This despite headwinds pertaining to tariffs, turmoil in Turkey, legal worries for the U.S. president, weaker-than-expected economic data, midterm election uncertainty and commodity market weakness. The equity market has stayed afloat as investors remain focused on the solid corporate fundamentals. The value proposition for stocks has improved since the last all-time high charted in January. According to FactSet, the 12-month forward P/E for the S&P 500 Index now sits at 16.6, around the five-year average at 16.2. The level is down from around 18.5 recorded at the height of the market in January. Expected earnings per share continues to trend higher, which supports a positive bias for stocks.

But before you think that we’re in the clear for summer volatility, seasonal headwinds may grow in the final month of the third quarter. September has been the weakest month for equities, on average, over the past 50 years. The S&P 500 Index has shed an average of 0.6 per cent, with 44 per cent of Septembers showing a negative result. Losses tend to be dominated by the last two weeks of the month as investment managers reallocate portfolios ahead of the end of the quarter.

Between Sep. 19 and the last day of the month on Sep. 30, the S&P 500 Index has lost an average of 0.91 per cent with 31 of the past 50 (62 per cent) periods showing a decline. The period has typically been the ideal reset to reduce elevated equity prices, allowing investors to add to positions for the strength that is common through the fourth quarter. Cyclical sectors tend to get sold off the most during the approximately two-week stretch, but this has historically created opportunities in the financial, industrial, consumer discretionary and technology sectors.

On the economy, much of the data continues to show growth that is above average, fueled by the tax cuts that were implemented at the end of last year. But one area is raising concerns: housing. The year-to-date change in the sales of homes in the U.S. is running below average through July and inventories are running well above average as the high price of housing keeps buyers to the sidelines. The inventory of existing single family homes is up by 32.6 per cent through July, double the average increase through this point in the year of 16.1 per cent. Prices are at risk of adjusting to a new equilibrium. Typically, weakness in the housing market has been a precursor to a recession, therefore the trends in the housing market warrant further monitoring.

TOP PICKS

ISHARES U.S. INSURANCE ETF (IAK.N)

Financial stocks have been in the doghouse through the first half of the year as yields move lower and yield spreads narrow. But it appears that the tide may be turning. The stocks have been breaking above base-building patterns in the past month, looking poised to move higher within the period of strength ahead. The Dow Jones US Select Insurance benefits from a period of strength between Sep. 23 and Jan.3, averaging a gain of 5.62 per cent. Positive results have been realized in 16 of the past 19 years.

U.S. GLOBAL JETS ETF (JETS.N)

The ETF presents a basket of stocks in the airline industry with top holdings including Delta, United Continental, Southwest, and American Airlines. The industry has been cutting capacity and raising prices, which has boosted the growth in air revenue passenger miles to the best level in over a decade. The sector has been negatively impacted this year as fuel prices rise to multi-year highs, but with the period of seasonal weakness for energy commodities around the corner, the stocks in the airline industry may finally see a reprieve from this negative headwind. The stocks in the industry enter their period of seasonal strength around the end of August/beginning of September, running through the end of November. The Dow Jones US Airlines Index has gained an average of 12.64 per cent, with positive results realized in 13 of the past 18 periods.

 PURPOSE HIGH INTEREST SAVINGS ETF (PSA.TO)

With the period of seasonal volatility for equity markets, investors may be tempted to sell to cash to wait out the potential market storm. This ETF allows investors to park their unused funds while earning a stable return. The current yield is 1.9 per cent, with distributions occurring monthly. The fund invests in high interest deposit accounts with one or more Canadian chartered banks, providing investors with greater yield than traditional money market funds.