Last week, we described October as being, on average, a very good month for the U.S. stock market. And, October, 2015 is turning out to be better than good – it’s great. What about November and the U.S. stock market? November has been the 3rd best performing month for the S&P 500 since 1990. During that period (1990-2014), the S&P 500 has gained an average total return of +1.6% during November. Over the entire period, 18 of 25 Novembers have been up.

October is, on average, a very good month for the U.S. stock market. But it is also a volatile month: Stock market veterans will recall the S&P 500 Index fell 20.5% on Monday 10/19/87 (28 years ago today), the largest single-day drop, in percent, in the history of the stock index. Keep in mind, in spite of tumbling 20.5% on the single trading day of Monday 10/19/87, the S&P 500 gained +5.3% for the entire 1987 calendar year.

REPEAT FROM SEPTEMBER 29

Both the bond and stock markets continue to act irrationally. This can occur for short time periods and frustrates many investors. Markets can either advance or decline during these times. Consider this analysis provided by Barron’s Online pertaining to last week:

“Part of the newfound bullishness derived from Thursday’s release of dovish minutes from the latest Federal Open Market Committee meeting, which investors interpreted as meaning that the likelihood of a December interest-rate hike is receding. It’s hard to believe that only two weeks ago, the market was unnerved by the same thinking.”

FOR THE TIME BEING, WE RECOMMEND YOU KEEP AN EYE ON THE “HEAT MAP” (BELOW) WHICH SERVES AS AN EXCELLENT TOOL TO KEEP THINGS IN PERSPECTIVE OVER A LONGER PERIOD.

When it comes to money and investing, we’re not always as rational as we think we are – which is why there’s a whole field of study that explains our sometimes-strange behavior. Where do you, as an investor, fit in? Insight into the theory and findings of behavioral finance may help you answer this question.

One bias we harbor is sometimes described as “availability bias”. In this case, investors overstate the probabilities of recently observed or experienced events because the memory is fresh. Recent news is capable of clouding investors’ perspective even if its effects are minor or inconsequential.

FOR THE TIME BEING, WE RECOMMEND YOU KEEP AN EYE ON THE “HEAT MAP” (BELOW) WHICH SERVES AS AN EXCELLENT TOOL TO KEEP THINGS IN PERSPECTIVE OVER A LONGER PERIOD.

We feel compelled from time to time to write about behavioral finance – in particular, which actions investors take (frequently bad) when they observe irrational, illogical dips and jumps in the markets which appear to be opposite of what is expected.

A case in point: On Thursday, the FED kept interest rates unchanged. Low interest rates is a good thing for the real estate market, car sales, low mortgage rates, lower gasoline prices, many other things to help the consumer, and higher business profits. What does the stock market do in reaction to this good news on Thursday and Friday? It dropped!

Today (Monday), oil prices rose in response to unconfirmed rumors of OPEC cutting production. And, interest rates on longer term bonds moved higher. Both were bad news for the stock market; but, what did the market do? It jumped over 125 points.

These irrational, illogical moves in the stock market can cause human emotions to take over and heavily influence investors in their decision making process IN A NEGATIVE WAY IN THE SHORT TERM.

But in the long term, the stock market IS rational. So, we will write several articles in the future to explain some examples of behavioral finance in real life to help you avoid letting your emotions cloud your investment judgment. BUT, FOR THE TIME BEING, WE RECOMMEND YOU KEEP AN EYE ON THE “HEAT MAP” (BELOW) WHICH SERVES AS AN EXCELLENT TOOL TO KEEP THINGS IN PERSPECTIVE OVER A LONGER PERIOD.

A highly anticipated Federal Reserve Open Market Committee (“FOMC”) meeting occurs September 16 -17.

The Federal Reserve controls the three tools of monetary policy–open market operations, the discount rate, and reserve requirements. The Board of Governors of the Federal Reserve System is responsible for the discount rate and reserve requirements, and the Federal Open Market Committee is responsible for open market operations. Using the three tools, the Federal Reserve influences the demand for, and supply of, balances that depository institutions hold at Federal Reserve Banks and in this way alters the federal funds rate. The federal funds rate is the interest rate at which depository institutions lend balances at the Federal Reserve to other depository institutions overnight.

Changes in the federal funds rate trigger a chain of events that affect other short-term interest rates, foreign exchange rates, long-term interest rates, the amount of money and credit, and, ultimately, a range of economic variables, including employment, output, and prices of goods and services.

We can expect this week’s FOMC to move markets and create a moderate amount of intra-day volatility because the FOMC’s announcement on interest rates will be followed by a press conference with Chairperson Yellen. This provides the opportunity for her to give us intriguing comments and statements of opinion.

Warren Buffett versus CNBC High Frequency Traders – the difference in investment philosophy is dramatic and was clearly evident in two interviews. In the early morning, CNBC asked Warren Buffett to justify his recent controversial purchase of MORE shares of IBM, the worst performing stock in the Dow Jones 30 Index in the last two years. Buffett said he based his investments on IBM’s prospects over the next five or 10 years, and he encouraged investors to take a long-term view. And, he used the August volatility to pick up some more IBM shares “on sale”.

At mid-day, a CNBC reporter surprisingly asked a frequent guest speaker, who I would classify as a “high-frequency trader”, what he thought of Buffett’s remarks about buying more IBM. He nervously responded IBM has not been trading well and the majority of investors “he knows” are interested in what IBM is doing now and this quarter, and they are not interested in thinking in terms of 5 or 10 years.

Which investment philosophy makes more sense to you? If you agree with the first paragraph, your investment philosophy matches well with Valley National’s. If you agree with the second paragraph, we need to discuss further.

Looking Outside the Headlines

The health of the Chinese economy has been a predominant headline placing downward pressure on global stock markets recently, but if you’ve been caught up in the headlines you may have missed this:

• The Bureau of Economic Analysis reported last Thursday that real gross domestic product rose at an annualized rate of 3.7% in the second quarter. All the components of gross private domestic investment rose at an annualized combined growth rate of 5.2%. The largest component of GDP, consumer spending, was revised up to 3.1%.
• Initial Jobless Claims in the US decreased to 271k for the week ending August 22, coming in below its 4 week average.
• The University of Michigan’s consumer sentiment came in at 91.9 in August slightly below its 4 week average, but still a strong reading.

Overall China’s woes are creating volatility in the near term, but if you focus on the big picture the US economy seems to be improving. Barron’s Gene Epstein pointed out on Friday the following: “WHAT ABOUT THE FALLOUT from weakness in Asia? It has parallels with the summer and autumn of 1998, when an Asian crisis threatened global stability. In the third and fourth quarters of ’98, growth of real gross domestic product in the U.S. accelerated, running an outsize 5.3% and 6.7%. The Asian crisis may even have contributed to that stellar performance by encouraging low energy and commodity prices-factors that are present now. The Stand & Poor’s fell nearly 20% from mid-July through late August of 1998, almost qualifying as a full-fledged bear market. But the market made new highs by late November.”

This is a good example of why it is best to follow an investment discipline and not your emotions. From an investment standpoint we’ve already taken strides to reduce your exposure to energy and basic material companies where the greatest risks seem to lie with a slowing Chinese economy. We will continue to monitor the economy and make improvements when necessary with the objective in mind of reducing downside risk.

1. Don’t fixate on the news. The more often you update yourself on the market’s fluctuations, the more volatile and risky it will appear to you — even though short, sharp declines of 5% or more are common. Fixating on fluctuations in the short term will make it harder for you to remain focused on your long-term investing goals.
2. Don’t panic. While stocks are certainly not cheap, they aren’t wildly overpriced, given today’s levels of interest rates and inflation.
3. Don’t be complacent. You should use the latest turbulence as a pretext to ask yourself honestly whether you are prepared to withstand a much worse decline. Did you lose sleep Friday night or over the weekend worrying about your portfolio value? If so, we need to talk AS SOON AS POSSIBLE
4. Don’t get hung up on the talk of a “correction.” A correction is typically defined as a decline in price of 10% on a widely followed index like the Dow Jones Industrial Average. The term doesn’t have official status, however. Markets recover from most corrections within 3 or 4 calendar quarters. A market decline of 10% has no real significance in and of itself. What matters is the outlook for the future; that doesn’t depend on whether the market is down 10.2% rather than 9.8% – see a discussion under “HEAT MAP” below for the outlook for the U.S.
5. Don’t think someone on TV—or me –or anyone else–knows what will happen next. After a market drop, or at any other time, no one knows what the market will do next. Stocks could drop another 10% from here, or another 25% or 50%; they could stay flat; or they could go right back up again. Diversification and patience — and, above all, having a long term plan in place — are your best weapons against this ever present uncertainty. (Source, in part: Wall Street Journal)

“Made in China” has become cheaper.  Today’s surprise move by China to make its currency (the yuan) weaker will make Chinese manufactured products 2% less expensive.  This will help American consumers who buy or use products sourced in China.  And, it DECREASES the probability the FED will raise rates in September.  I now rate the probability of rate increase in September at less than 50%.