In one of its lesser known hits, “Let the Music do the Talking,” an anthem to the carelessness of youth (shocking), 1970’s rock icons Aerosmith crooned about taking chances and just going for it on the dance floor.

That may have worked well for the Boston rockers and their followers in days gone by. But when it comes to the stock market, carelessness is ill advised. Yet, the go-for-it message of the song rings true as price charts are more reliable than stale pundit opinions and algo-fueled knee jerk reactions in gauging where to put your money.

Last week, in this space I suggested that being prepared for the market’s response to key events, such as speeches by Federal Reserve Chair Jerome Powell is more important than forecasting the future or letting the latest narrative guide your actions.

In this article, I am following up on those thoughts while adding a seasonal component to the mix and letting the market do the talking.

Is there a Bullish Surprise Ahead in September?

The month of October is chock full of nasty market crashes with the 1987 debacle being the most recalled. More recently, stocks suffered meaningful drawdowns in October 2018 while the biggest October hit in recent memory came when the subprime mortgage bear market, which had started in October 2007, accelerated.

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But what most investors may not realize is that historically, the worst month of the year is actually September. As the chart below shows, over the last 10 years, the SPDR S&P 500 ETF (SPY) has fallen an average of 1.4% during the month only delivering gains 50% of the time.

Monthly seasonality of stock market. Courtesy of Stockcharts.com via Tradesthatswing.com.

Moreover, anytime you scan the worst months of the year for the market, regardless of your time frame, or how many months register in your search, the month of September is included in the tabulation. As a result, as we head into the fabled “bad month” for stocks, it’s a good time to see how things may line up this year.

Let’s start with the narrative.

The Fed Is Talking Higher Rates

The big elephant in the room for stocks in just about any month is interest rates, especially those set by the Federal Reserve. In his recent comments in Jackson Hole, Wyoming, Powell made it clear the central bank will raise rates beyond its already record setting streak if the inflation data call for it.

At the same time, one of the Fed’s inflation targets, the labor market, is showing signs of slowing rapidly. The most recent JOLTS report showed a slowing in the number of job openings and workers quitting. This slowing was confirmed by a worse-than-expected private jobs data number from ADP. Moreover, the up to now resilient services sector seems to be decelerating rapidly.

Perhaps the icing on the cake was delivered by the most recent revision to U.S. gross domestic product (GDP), which knocked down U.S. economic growth to 2.07% from the initially reported 2.4%.

Powell is talking about rate hikes as the economy is showing signs of slowing.

The Bond Market Is Rolling Over

The other huge player in the interest rate field, is of course, the bond market. That’s because bonds hate inflation. Over the last few weeks, the U.S. Ten Year Note yield (TNX) has risen well above 4% and may move higher. The 4.3% yield is the key chart point to watch, as a move above that point would signal bond traders are increasingly pessimistic about inflation.

On the other hand, the news of a slowing jobs market and the GDP revision triggered a nice reversal in yields. Suddenly, 4.3% seems like a distant memory as bond yields test the 4% area.

The market is responding to real time data as the Fed talks about the past.

The Stock Market Was Ahead of the Game

Certainly interest rates calibrated by the Fed, and how the bond market responds, are crucial for stocks. But markets respond to current data while factoring in what it could mean for the future. Here’s a great example of how things work.

The market’s pullback in August, in a fearful response to the Fed’s tough talk, placed stocks in an oversold condition from which we are seeing a bounce. Here’s an update of the key factors to watch as this situation develops:

• The New York Stock Exchange Advance Decline line (NYAD) recently crossed above its 50-day moving average, a sign that stocks are back in an uptrend.
• The CBOE Volatility Index (VIX) has rolled over once again. This is a sign that bearish expectations are decreasing and that selling pressure is easing on stocks.
• Finally, the Relative Strength Indicator (RSI) recently delivered a reading of 30, which signals the market was oversold and due for a bounce. The burgeoning rally, which we are experiencing, followed this oversold reading as it did both in October 2022 and March 2023.

If NYAD remains above its 50-day moving average and VIX remains below 20, stocks are sending a bullish message.

Key Stock Sectors Show Improvement

The relationship between interest rates and the stock market is best viewed via action in the interest rate sensitive sector of homebuilding and its response to the Fed and the bond market.

As I often point out, the homebuilder sector is an excellent barometer as to how the overall stock market may behave. Recently, homebuilders have been sagging as the Fed’s tough talk and the related higher rates in the bond market have pushed mortgage rates above 7%.

But, as I’ve noted multiple times, the balance between supply and demand for housing tilts toward the homebuilders. The SPDR S&P Homebuilders ETF (XHB) recently found support just below $80. An early bullish sign that this could be a bottom that holds comes from the rise of the Accumulation/Distribution Indicator (ADI), which is a sign of short seller activity. Notice that the August top in XHB coincided with a rolling over of ADI.

It’s always comforting when the real estate investment sector confirms the action in homebuilders. Currently, the iShares Real Estate Trust ETF (IYR) is closing in on its 200-day moving average. A move above this key line would likely signal a recovery in this sector where commercial real estate is in dire straits but residential rental properties are still in a competitive situation due to the above mentioned balance of supply and demand in housing.

Outside of the traditional interest rate sensitive sector, the potential for higher prices in technology stocks has also been reignited. Shares of the Invesco QQQ Trust (QQQ) are back above their 50-day moving average signaling that a challenge of the recent highs is possible. ADI and On Balance Volume (OBV) are both turning up here, which is a sign that the recent correction may be over as money is moving back into stocks.

At least three key sectors of the stock market have reversed their down trends.

Let the Market do the Talking

The market’s narrative remains negative. September is traditionally a bearish month for stocks. But both the stock and bond markets have reversed course just ahead of the start of the fateful month, and the price charts show it, while the pundits are still talking about Powell’s Jackson Hole speech, which in market time was ages ago.

In the present, the JOLTS report suggests the labor market is cooling. ADP data confirms it. GDP is less robust than initially reported. Bond yields may have topped out. Stocks are putting in at least a short-term bottom.

Interest rate sensitive and technology stocks are once again under accumulation.

It’s early in this potential market recovery. A lot can happen after the Payrolls data release on Friday.

Finally, it’s important to recognize that Aerosmith is still on tour.

Let the market do the talking and pay attention.

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