It was an August of angst for investors, ahead of what most now expect will be a stressful September.
But last month did more damage to the collective psyche than to stock prices. This speaks both to the market's resilience and to this delicate moment in the economic cycle.
In fact, the upwelling of worry among investors and the broader public reflects the bumpy economic terrain and represents one of the more bullish factors in equities' favor at the moment.
The 6% pullback from the late-July record high to the August lows in the S&P 500 was partially recovered, but in choppy, treacherous fashion. The index gained or lost at least 1% on 11 days — half of all August monthly trading sessions.
The collapse in Treasury yields toward record lows and the slight inversion of the yield curve — with two-year note yields exceeding the 10-year — generated a crescendo of recession anticipation despite data confirming the U.S. has remained on a 2% GDP path with healthy consumer conditions — for now.
The result is a stock market that sits almost exactly where it was one year ago, but shadowed by late-cycle worries, an entrenched trade conflict and unnerving messages from the global bond market.
The S&P 500 closed on Sept. 1 last year at 2,913, and finished Friday at 2,926. Yet the course taken to the same place has been unusually dramatic.
Strategist Julian Emanuel of BTIG notes that only twice before has the S&P 500 gone from a record high to a 20% decline to another fresh record high within a seven-month span (as it did from last September to April): 1990-91 and in 1998. The first instance straddled the start of a brief recession, the second a global financial shock from emerging-markets meltdowns and hedge-fund implosions.
Now comes September, with its reputation for difficult markets on many minds. Yes, the month is the worst for stocks, historically, averaging a 1% drop. And it's been up slightly less than half of all years.
Further, Jim Paulson of Leuthold Group calculates that Septembers have been rougher when preceded by below-average six-month equity returns and declining bond yields (both the case now).
Still, seasonal factors are but one factor, and typically not the dominant one when it comes to market behavior.
Valuation appears to be less a headwind for stocks now than when the index was here a year ago. Back then, the forward price-earnings multiple for the S&P 500 stood at 17; right now the stated forward P/E is near 16.5. A year ago, the 10-year Treasury yield was 2.9% and is now 1.5%, flattering equity valuations (while arguably also speaking ill of the economy's vigor).
With the benefit of hindsight, stocks were a bit more expensive than they looked in September 2018 because earnings have fallen a bit short of forecasts from that time.
Of course, profits could likewise disappoint in the coming year, especially into early 2020, when projections have earnings growth accelerating toward 10%.
Some comfort, then, that equities today aren't apparently pricing in impressive earnings growth, when long-term bond-yield expectations and valuation measures are considered.
Citi strategist Tobias Levkovich uses these parameters to divine how much of current market value is attributable to current profit levels versus anticipated future earnings growth. Right now, he sees the market today reflecting fairly minimal future profit progress, implying a decent valuation cushion.
Of course, the onset of recession would drive profits well below recent levels and take stocks down with them.
It's worth asking whether August's profoundly negative atmospherics — the deepening anxiety over trade-war escalation and purported omens of recession — have left Wall Street pretty well-braced for what September might hold.
Measures of investor attitudes — surveys, market-based indicators and fund flows — suggest a level of caution last seen either just after the late-2018 20% market tumble or back to the previous economic scares of 2015-16 and 2011 when stocks had shed more than 15%.
The Market Vane poll is back to early-January levels of pessimism, the AAII retail-investor survey has shown the kind of concern over the past four weeks only seen around much nastier market drops, and the CNN Money Fear-Greed Index last week approached December 2018 readings.
Heavy demand and high prices for protection in the options market last month "suggests investors are well-hedged against a downturn at the index level," Emanuel says.
An extremely heavy $42 billion was pulled out of mutual and exchange-traded funds in August, one of the larger outflows of recent years, hinting at a mini-panic disproportionate to the magnitude of market losses.
It's easy to understand why the flight instinct kicked in last month. The approach of a recession looks and feels an awful lot like the glide path to a soft economic landing.
A collapse in bond yields as dramatic as we've just seen is jarring, suggesting rising risk of a deflationary downturn even as it props up the value of other assets such as stocks. The effectiveness of further Federal Reserve rate cuts at this stage is widely questioned, even as the bond market implores the Fed to deliver them.
So, yes, there is plenty to worry about. The bright side is, many people are already plenty worried.
At some point, the end-of-cycle fears that have stalked this bull market will prove correct. These fears will likely be with us until the cycle does expire, even if that's years from now. And from October to December last year, observing that stocks were getting cheap and investors were "too bearish" didn't keep the indexes from tanking.
And yet, the most rewarding phases of this bull market have come when stocks broke higher out of long, anxious, volatile trading ranges after acute economic fears and cries if central-bank impotence proved overdone.
This September, it will probably help to keep both these realities in mind.