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Is The Government Shutdown A Convenient Excuse For A Market Pullback?

While it is true that there has not been a shutdown of the federal government in over 17 years, the current partial shutdown of the federal government is the 18th such shutdown since 1976. According to a recent "Investment Insights" article from Ashvin Chhabra of Merrill Lynch, the market impact, in the short term, of a U.S. government shutdown - which has been the defined result of a failure of Congress to pass a budget since 1981 - has been relatively insignificant and perhaps slightly positive for equity investors.

While each shutdown has its own set of circumstances and variables and arguably no previous shutdown had the confluence of factors; including the combination of the ongoing fiscal debate over the Affordable Care Act and upcoming Debt Ceiling deadline, that the current shutdown includes, the historical results are nonetheless interesting. To start, the average duration of the previous shutdowns was just over 6 days. The present shutdown, which officially began on October 3, stands at 6 days already and counting. The average market performance during previous shutdowns was just under a 1% loss. The present shutdown shows the S&P 500 as being down approximately 1% on a total return basis. Finally, the average market performance 2 weeks after, and 1 month after, each previous shutdown has been just over a 1% gain. It is not yet known how the market will perform when the shutdown is ended this time around.

S&P 500 Performance Prior, During and Subsequent to Historical Government Shutdowns



Shutdown Duration (days) 1 month prior 2 weeks prior During 2 weeks after 1 month after
9/30/1976 10 3.1% -0.1% -3.4% -1.5% -2.0%
9/30/1997 12 0.2% 0.1% -3.2% -1.2% 2.7%
10/31/1977 8 -4.3% -1.2% 0.7% 3.8% 0.7%
11/30/1977 8 2.4% -0.6% -1.2% 1.1% -3.2%
9/30/1978 17 -0.9% -1.5% -2.0% -3.6% -6.0%
9/30/1979 11 0.3% 0.5% -4.4% -3.8% -0.9%
11/20/1981 2 1.2% -0.8% -0.1% 3.0% 0.6%
9/30/1982 1 2.3% -2.7% 1.3% 9.5% 12.7%
12/17/1982 3 -0.3% -0.9% 0.8% 2.0% 3.8%
11/10/1983 3 -4.8% -0.3% 1.3% 0.0% -2.0%
9/30/1984 2 -0.3% -1.6% -2.2% 1.0% 3.1%
10/3/1984 1 -2.5% -2.7% 0.1% 3.2% 3.6%
10/16/1986 1 3.4% 2.4% -0.3% 2.2% -0.9%
12/18/1987 1 1.5% 11.3% 0.0% -0.8% -2.6%
10/5/1990 3 -4.0% 0.1% -2.1% 2.4% 2.8%
11/13/1995 5 1.3% 1.6% 1.3% 1.2% 2.0%
12/5/1995 21 3.8% 1.5% 0.1% -0.8% 4.8%
Average 6.4 0.1% 0.3% -0.8% 1.0% 1.1%
Median 3 0.3% -0.3% -0.1% 1.1% 0.7%

Source: BofA ML US Equity & Quant Strategy, Strategy Snippet: The shutdown saga continues. Sept. 27, 2013. Past performance is not an indication of future results. The S&P 500 is an unmanaged, capitalization-weighted index. You cannot invest directly in an index.

While the consternation in Washington has no doubt created uncertainty amongst investors and volatility in the markets, perhaps another reason for the recent pullback in equity markets was that this shutdown created a convenient excuse for equity investors to take some profits that have been realized during this current bull market run while looking for ways to redeploy these assets to different areas of the market that may stand to benefit for the next transitional phase of the U.S. and global economies.

Consider this, according to MFS Investment Management in an article entitled, "By the Numbers"; the bull market for the S&P 500 is now entering its 56th month. Since the market hit bottom in March of 2009, the S&P 500 has gain 176% on a total return basis through 10/4/13. Quite a run indeed! However, also according to the research cited in this article, the average bull market since 1950 has lasted 57 months….perhaps the run is due to come to an end?

Recognizing the global implications of any form of a default with respect to U.S. debt obligations, we do not believe, at this time, that Washington will allow the U.S. to default on any of our debt and that some form of a compromise is likely due to occur (whether good or bad) with respect to budget negotiations prior to the October 17th deadline for the decision to raise the debt ceiling. Regardless, the volatility that investors have witnessed, and the uncertainty that is likely to persist through the fourth quarter of 2013, should serve as a reminder to all investors of the importance of asset allocation and the benefits of diversification.

Asset allocation remains of the upmost importance, from our point of view, and should always be constructed in accordance with one's investment objectives, investment timeframe and tolerance for risk. While past performance cannot guarantee future results, and asset allocation cannot ensure a profit or protect against a loss, applying a historical perspective and maintaining an appropriate strategic asset allocation can help provide comfort and direction to investors during periods of great volatility.

As a result, this partial government shutdown can be used as a convenient, and necessary, excuse for individual investors to reexamine their asset allocation strategies with their trusted advisors and make appropriate adjustments as necessary.