Value Stocks Look to Avoid ‘September Effect’ Concerns After Enduring Mixed Year

Stock trader John Bowers works on the floor of the New York Stock Exchange on Aug. 25, 2023, as Federal Reserve Chair Jerome Powell's speech is broadcast on a TV screen. Richard Drew/AP Photo

September has typically been the worst-performing month in the U.S. stock market over the past century, with investors referring to this time of year as the “September Effect.” From 1918 to 2022, the S&P 500 index recorded an average decline in September, although some years have had better results than others.

“September has been quietly consistent: the S&P 500 has lost an average of 1.1% in that month across years dating back to 1928,” Jan Szilagyi, founder of investment research firm Toggle AI, wrote in a research note.

“February and May ... are marginally negative, but September is solidly painful. It isn’t just a few bad years dragging down returns: The S&P 500 has risen less than 45% of the time over that period, making September the worst month on that metric, too.”

So what’s the outlook for September 2023?

“Statistically speaking, not great,” Mr. Szilagyi said. “S&P 500 is trading at 19.4 times forward P/E [price-to-earnings] estimates, very high relative to history. Inflated valuations alone don’t cause stocks to drop, but they can provide a pretty good guide of how far the stocks could drop.”

Traders positioned in value stocks are hoping that 2023 will avoid the September Effect, as this corner of the equities arena has been mixed all year.

Value stocks are publicly traded companies with lower share prices than the performance of their underlying fundamentals. Some of the most notable names are JPMorgan Chase, Nike, and Walmart. The counterpart is growth stocks, firms that are anticipated to expand sales and earnings at a faster pace than the market average. They generally include top juggernauts such as Apple, Nvidia, and Tesla.

The Morningstar US Value Index has struggled for most of the year. After kicking off 2023 with a 4.29 percent gain and mixed results through May, the index rebounded in June and July. However, in August, the index tumbled by nearly 4 percent.

By comparison, the Morningstar US Growth Index has performed well for most of the year. In January, it soared close to 11 percent and followed that with significant gains in March, May, June, and July before tumbling by nearly 6 percent last month.

Value stocks have generally found it hard to keep pace with growth stocks, which have been fueled by the monster rally in the “Magnificent Seven” stocks (Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia, and Tesla). Indeed, value stocks have been marketed as less risky investment vehicles since those companies are already established and provide steady dividend payments, while growth is viewed as an opportunity to maximize capital returns.

Looking ahead, value is poised to outperform growth this year, according to Vanguard.

Bank analysts, using the Vanguard Capital Markets Model®, project that U.S. value stocks will offer returns of 4.6 percent to 6.6 percent. Growth is only expected to deliver a return of 0.8 percent to 2.8 percent.

Vanguard also recently raised its outlook on the Federal Reserve’s policy rate, forecasting that the Fed funds rate could climb as high as 6.25 percent by year’s end. However, the futures market expects the Federal Open Market Committee to leave the policy rate in the target range between 5 and 5.25 percent, with rate cuts sometime in spring 2024, according to the CME FedWatch Tool.

A pedestrian walks past the New York Stock Exchange on Oct. 27, 2022. J. David Ake/AP Photo

Fed Chair Jerome Powell warned in his keynote address at the Jackson Hole Economic Symposium that the central bank could keep boosting rates because inflation is “too high.”

Either way, the upward movement in interest rates has been a boon for other assets, particularly money markets and Treasury securities.

Rise of the Money Markets

However, if value investors are searching for safe bets in the stock market, they might also be turning to money markets—cash investments that maintain short maturities—and Treasurys.

Since March 2022, the Federal Reserve has raised interest rates by 500 basis points to their highest levels in more than two decades. As a result, when individuals and companies are taking advantage of cash investments, they’re earning 5 percent guaranteed returns.

Yields on Treasurys ranging from one month to one year are returning more than 5 percent. The two-year yield is also inching toward the 5 percent mark. But even long-term Treasury securities are offering holders more than 4 percent.

The average savings account rate is about 0.4 percent.

The Fed and other central banks worldwide have warned that rates will be higher for longer, as they attempt to vanquish inflation. With the annual U.S. consumer price index and the Fed’s preferred personal consumption expenditures price index rising in July, investors agreed that the case for elevated interest rates for an extended period strengthened.

Global money market funds witnessed a net $5.96 billion in inflows for the week ending on Aug. 30, compared to $2.13 billion in outflows. Investors added about $7.29 billion in U.S. money market funds, followed by $291 million into European funds.

Total money-market fund assets recently hit an all-time high of $5.25 trillion.

With investors pouring record amounts into these funds this year, Securities and Exchange Commission (SEC) regulators adjusted rules governing money markets, installing a measure that implements fees when a fund observes daily net redemptions that surpass 5 percent of net assets. The SEC wants to prevent these funds from receiving bailouts during financial turmoil.