Checking in on Seasonality

As the month began, we wrote a piece noting that over the past 25 years, August has been on average the second worst month for the S&P 500 (SPX).  Over that period, the average return for the benchmark index was -0.60%, better only than September’s -0.67%.  As of midday today, SPX is down about -1.4% for the month of August.  This month’s decline in the NASDAQ 100 (NDX) is currently quite similar.

Of course, that belies a considerable amount of volatility that occurred during the month.  At no point did either benchmark close above its July 31^st level.  SPX was down about -4.8% at its worst close, and NDX was about 6.7% lower on that same day.  Both of the closing lows occurred on August 18^th, which not coincidentally was a monthly options expiration.  (Yes, monthly expirations still matter.)

We offered the following explanation for why August tends to be a tricky month:

“Why, then, does August tend to be a down month?  One theory is that August is the most popular month for vacations in the Northern Hemisphere, with negative implications for liquidity.  Thinner markets tend to be more susceptible to negative surprises.”

To be fair, as we learned on Tuesday, thin markets can be quite susceptible to positive surprises as well!

While seasonality has proven to be a reasonable guide for the total return on SPX this month, it proved incorrect when it came to volatility, at least on a month-over-month basis.  We reminded readers that VIX is constructed as the market’s best estimate for volatility over the coming 30 days.  Bearing in mind that the 30-day period that follows August is September, we noted:

It would also not be surprising if traders begin looking ahead to the normally difficult September period, thus making them less willing to buy dips or commit new capital.

Thus, it should not be surprising that August has been by far the best month for the Cboe Volatility Index (VIX) over the past 25 years with an average rise of +10.42%.  

At this moment, VIX is almost exactly unchanged for the month.  Its current level of 13.66 is only marginally above July’s 13.63 close and would represent a closing low for August if it persists below yesterday’s 13.88.  Yet those who were long VIX at the start of the month had ample opportunity to profit.  That index touched a high of 18.88 on the 18^th, with closes above 17 on that day and the ones prior and subsequent. 

Given the usual seasonality for September, we are forced to wonder whether traders have become too suddenly sanguine.  We are currently just above the year’s closing low for VIX (12.91 on June 22^nd) heading into a typically tricky month for markets.  Traders might understandably look past the potential moves that tomorrow’s key a key Payrolls report might spawn and into the three-day weekend that follows, but that belies a potentially inappropriate calmness about the weeks to come.

As we close out this rocky month, we will reassert our conclusion from the start of the month:

Seasonality is important to consider.  Too bad it can’t be relied upon.