September is a historically weak month for equities, but according to Tom Lee of Fundstrat a rally is still possible.
He stressed that falling used car prices should help reduce inflation, thereby reducing the likelihood of further rate hikes by the Fed.
Here are three reasons why Lee still sees hope for a stock market rally this month.
The stock market is off to a rocky start in a historically weak month of September, but Fundstrat’s Tom Lee still sees potential for a rally.
The S&P 500 is down nearly 2% so far this month, and investors have plenty to worry about. There is a potential UAW strike that could halt production from the major car companies, a government shutdown is looming by the end of this month and oil prices have skyrocketed.
Part of the weakness has also been caused by investor fears that the Federal Reserve will continue to raise rates in its ongoing effort to contain inflation, based on recent comments from regional Fed presidents.
But in a video update to clients on Wednesday, Lee outlined three reasons why he hasn’t given up on the stock this month.
1. Seasonality in September
While September is historically the worst month of the year for the stock market, Lee dug deeper and discovered some interesting seasonal trends.
He looked at the months of September in which the first three days of the month were less for equities. There have been 33 such cases since 1950, including this month.
Out of those 33 months, stocks were up only 24% of the time for the rest of the month and the average return was negative 2%.
“But that’s not what we should focus on. Let’s not forget that we’re up more than 10% through the end of August,” Lee said.
According to Lee’s analysis, there have been eight months since 1950 when stocks rose more than 10% through August, but fell in the first three days of September. In five of those eight months, stocks closed higher for the rest of September.
“That’s why I don’t think you should lose hope,” Lee said.
Lee said the current positioning suggests investors may be approaching the level of capitulation, based on the stock’s put-to-call ratio, which was 1.2 on Wednesday. Over the past six months, the put-to-call ratio, which measures investors’ relative bullish and bearish option buying activity, only reached the 1.2 level twice over the past six months.
“That was right after the Silicon Valley Bank, and then on August 16. And if you look at the S&P 500, you were within one to two days of a low. So I think we’re approaching the end of this sell-off,” he said.
3. Used car prices are falling
Lee turns his attention to falling used car prices, which are responsible for 15% of consumer inflation, and sees continued negative impacts. If inflation can continue to fall lower, it would take pressure off the Fed to keep raising rates, which would benefit investors.
He stressed that OffLease, a major used car dealership that sells more than 300,000 cars annually, appears to have collapsed this week.
“Here’s what this means. Used car prices are falling, and they’re likely to start falling faster if you have situations like [OffLease]. And that is good for inflation,” said Lee.
He also said housing rents appear to have stalled, which should also put downward pressure on much of consumer prices.
“So the bottom line is: a rough start to the month. It’s a pity, it’s rather a pity that we are strong in the first three days [of September]”But the fact that it’s lower doesn’t mean the rest of the month is a write-off,” Lee said.
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