Summer begins tonight at 10:04 pm in the Pacific time zone, or 1:04 am in the East. The solstice - which literally means "the sun stands still" - refers to that moment when we in the Northern Hemisphere dip as near the equator as possible and begin heading back north again. It's the longest day; the shortest night.
Stock market folklore says we'll soon see a summer rally - a 10% rise from the May/June lows to the summer highs - or we'll see a June swoon or August doldrums, or some combination of the three. Recent summers are no big help in establishing a trend. If you define the summer as June 21, to September 21, the S&P 500 gained 10% last summer, lost 10% in the contentious summer of 2011, gained 2.4% in the summer of 2010, and shot up 20% in the summer of 2009, the first year of a raging (+147%) bull market.
Stocks Sometimes Celebrate the Summer Solstice, Big Time
Two of the best weeks in market history came around the summer solstice during the dismal 1930s:
On June 20, 1931, President Herbert Hoover called upon leaders of the world to suspend all payments of international debts and reparations for the next 12 months. With the recent demise of Austria's giant bank, Kredit Anstalt on May 11, Hoover feared that the international economy was on the brink of collapse.
The international community agreed, and by July the freeze was in effect. On the first day of summer, euphoria was in the air. In the week beginning June 21, 1931, the Dow gained 23.73 points (+18.2%), the Dow's best week, all-time, by percentage terms. But autumn came early. By September, Great Britain abandoned the gold standard, shattering the world's fragile faith in the global economy. American banks and factories began shutting their doors, leading to the worst year of the Great Depression in 1932.
During the first week of July 1932, the market reached its all-time 20th century low, but that was also the week the Democrats nominated Franklin D. Roosevelt to rescue the nation. The market shot up 80% in the next two months - surely the Summer Rally to End all Summer Rallies - but it began from an abysmally low starting point.
In America's Dust Belt, the summers of the mid-1930s were the hardest seasons to endure, but investors on Wall Street were actually enjoying the biggest five-year stock rally of the 20th century as the Dow rose from 41.22 in mid-1932 to 194.40 on March 10, 1937. Then came another heartbreaking 49% drop, followed by the second-best week in Dow history around the summer solstice of 1938. What happened?
During the week of June 19-23, 1938 - 75 years ago - President Roosevelt and Congress passed a number of popular bills. On June 21, Congress passed the Emergency Relief Allocation Act, which allocated $3 billion for thousands of new programs - something like the $787 billion stimulus act of 2009, which accompanied the start of this bull market. Also, on June 22, Congress amended the Federal Bankruptcy Act to help persons or firms settle with creditors while avoiding liquidation. Also, President Franklin D. Roosevelt signed the first minimum wage law in the U.S., setting the floor at $0.25 per hour, along with a maximum 44-hour work week for minors. As a result, the Dow gained 18.7 points (+16.5%) that week.
The Stock Market This Summer should Mirror Corporate Earnings Growth
Ancient history has little or nothing to do with today's market, but it's always interesting to see why certain days, weeks, months, and election years tend to bring out the best or worst in stock markets.
While the whole world is focused on Fed policies and the latest spy scandals in Washington, DC, the stock market will likely continue to move up or down based on corporate earnings. The current bull market has been accompanied by an explosion in corporate earnings growth, so much so that the price-to-earnings (P/E) ratio has remained remarkably modest throughout the bull market, at around 15. The P/E for large-cap stocks is 13.9, mid caps are 15.9, and small caps come in at 16.8, according to Ed Yardeni.
Wall Street is already looking forward to the second-quarter earnings announcement season, beginning in mid-July. According to Yardeni, "Forward earnings hit a record high again last week for all three indexes. MidCap's forward earnings have been up for 14 straight weeks." Analysts now see single-digit earnings growth overall, with large-cap earnings growing 3.5%, mid caps 4.4%, and small caps 7.9%.
Those are not awesome numbers - likely not enough to generate a meaningful summer rally - but the dismal outlook of most analysts leaves plenty of room for positive surprises to move the market up this summer.
To date, the S&P 500's peak was 1687 on May 22, the day Fed Chairman Ben Bernanke hinted that the Fed might "taper" (reduce) its $85 billion per month bond buying program known as quantitative easing (QE). So far, the various Qs (QE1, QE2, and QE3) have accompanied the market's biggest surges in the last four years, so a hint of tapering had the effect of tipping the market averages into a downward arc.
Market sentiment has declined along with the market averages. According to Mark Hulbert, writing in last weekend's Wall Street Journal ("In Battle of the Market Timers, the Bulls Get it Right"), the top 10% of advisors - the most successful market timers he follows - were 100% invested a month ago, but they are only 67% invested in stocks now. Still, that's wildly bullish behavior compared with the worst 10% of timers, who are net-short the stock market, with an average equity recommendation of minus-22%.
Some of the most successful bulls Hulbert quotes are short-term bearish. Jack Schannep, editor of TheDowTheory.com "feels the market has gotten ahead of itself," and Dan Sullivan, editor of The Chartist - believe a 5% drop in the market "could be imminent," but neither analyst is selling stocks.
Putting all these facts together, we'll likely see a summer swoon, rally, AND doldrums - all in the same three months. In what order? That's the $64 (or is it $85) billion dollar question. For long-term buy-and-hold folks, the sequence of events doesn't matter, but if history is any guide, we'll see a surge on the first July earnings, perhaps some stalling in August, and a recovery after Labor Day. Enjoy your summer!
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Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.