Will This be a Scary September?

Andrew Wilkinson and Steve Sosnick break down whether September will live up to its reputation as the market’s scariest month. From Fed independence battles and rising bond yields to jobs data and AI stock pullbacks, they explore what could rattle or steady investors this Fall.

Summary – IBKR Podcasts Ep. 292

The following is a summary of a live audio recording and may contain errors in spelling or grammar. Although IBKR has edited for clarity no material changes have been made.

Andrew Wilkinson 

Welcome to this week’s podcast from Interactive Brokers. My name’s Andrew Wilkinson. Joining me, chief market strategist Steve Sosnick. How are you, Steve? 

Steve Sosnick 

I am wonderful, Andrew. How about yourself? 

Andrew Wilkinson 

Doing well. After the long weekend, investors got off to a bit of a shaky start on Tuesday when they returned to negative catalysts. I want to jump straight in here. 

We’re awaiting a decision on Trump’s motivation to fire FOMC member Lisa Cook, which has far-reaching implications for control at the Fed and the balance of power there. The second issue concerning the Fed is the rising global bond yields at longer-dated maturities on increasing concern over fiscal deficits. Which one of those do you want to take first, Steve? 

Steve Sosnick 

I think let’s go with part two first because it’s very tempting for us investors to think specifically US-centric. While the Lisa Cook story has potentially huge ramifications for the US bond market, I think it’s important to keep in context what’s going on globally. 

I’d argue the US bond market is holding up rather well compared to its major government bond market peers. For example, in the UK, long-term gilt rates have been the highest they’ve been in about 28 years. In Japan, we’ve seen the 10-year — and certainly the 30-year — rates really zoom. In France, there’s a bit of a crisis of confidence in their bond market. Although the US long bond — the 30-year — has tested the 5% level a couple of times recently, and the 10-year, as you noted, is around 4.27, that’s not so bad. The 5% level on US bonds is a little bit tempting, shall we say, because the market has defended it so well. This morning we saw it get right up close to that number, and as we’re speaking now, we’re about five or six basis points below it. So it’s clear there’s demand at the 5% level.  

My fear, of course, is if it breaks beyond that, you probably go right to 5.20, which is the longer-term high yield for the 30s. So that’s the concern I have. Looking more specifically at the Lisa Cook situation, there are big ramifications here. But it’s important to remember that the Fed doesn’t really have a lot of control over the long end of the curve. They control the short end and they have an input into how well inflation is controlled — which is pretty much the primary determinant of the spread between shorter- and long-term rates. 

Unless they actively implement some sort of quantitative easing or quantitative tightening — the former is possible — the Fed runs the risk of… if they loosen too much at the short end and stop worrying about potential inflationary impacts, or are seen as not sufficiently vigilant against inflation, then the long end of the curve rises and the spread steepens. 

The question is: do you get what’s called the bull steeper, where the curve generally shifts down, with the front end shifting down faster than the back end? Or do you get a bear steeper, where the front end stays relatively stable and the long end rises? Probably not going to rise in the short term, but still relatively stable. 

There are a lot of moving parts here. But I think threats to Fed independence certainly are not wonderful. I’m not going to handicap the court case because that’s just not what I can do. I’m not a lawyer, and I’m not going to play one here on a podcast. That said, the arguments seem compelling. There’ve been a lot of very prominent voices reaffirming the need for Fed independence — not least of which were Thomas Peterffy on CNBC last week, Ray Dalio the other day, and I think Ken Griffin did as well. There are some very big, prominent names in the financial industry pushing back on the idea of reducing Fed independence. I would like to think the administration listens to those voices, almost regardless of how the court case goes. 

Andrew Wilkinson 

And judging by how the market rebounded yesterday into the close, I think the market’s getting a sense that things will turn out okay on that front. A shaky start to begin September, but the next hurdle at the end of this week, Steve, is the August employment report. How big a deal is this one going to be? 

Steve Sosnick 

Quite big. Just give me a second — I’m pulling up the numbers on my screen here. It’s about as big as it gets. Remember, the Fed is concerned with the dual mandate: stable prices and maximum sustainable employment. At Jackson Hole, Chairman Powell shifted his focus. Whereas before it was very much “tell me why rates should be cut,” it became “tell me why rates shouldn’t be cut.” It’s subtle, but the market of course loved it. By about noon yesterday, though, we’d given back all the Jackson Hole-related gains. Also, parenthetically, the likelihood of Fed cuts is actually below where it was before he spoke. A week before, Fed funds futures were pricing in about a 5–10% chance of a second rate cut — a 50-basis-point cut. By the way, ForecastEx, when I last looked yesterday, had about a 7% chance of a 50-basis-point cut as well. So I’d say our ForecastEx customers are maybe a little more enthused than those of the Chicago Mercantile Exchange. 

Andrew Wilkinson 

I don’t mind those odds, to be honest, Steve. 

Steve Sosnick 

You think 50 is in the cards? 

Andrew Wilkinson 

Get it done and see what the White House has got to say after that. 

Steve Sosnick 

I think, though, the problem here is twofold. Number one, we just lost whatever clarity we might have had on tariffs over the weekend, and I think that was part of the reason why the market sold off. Bonds sold off a little bit because it’s widely believed that the “big, beautiful law” is going to increase deficits. 

Tariffs, at least, were plugging some of the hole in that regard. That does not seem to be the case right now if tariffs get removed. That adds a fiscal issue to it. Secondly, if you’re a company, how do you plan? We at least got to a point where it seemed like you could plan for what was going on, and now you can’t. So the “stable prices” portion is less convincing than it might appear on the surface. By the way, also on Friday we got the core PCE number, which at 0.3 was bang in line. It was actually 0.27, which of course is better than 0.3. But it was the fourth month in a row where core PCE rose very slightly — and it’s going in the wrong direction. And also in Jackson Hole, the Fed reaffirmed the fact that the inflation target is two — not something near to, not something approximating two — it’s two. So you have that mitigating against it. I’m going over to this other screen just so I can make sure I have the numbers correct in terms of expectations. 

Obviously, the last employment report was essentially a debacle because the revisions were so huge. It led to political fallout, and it led to the head of the BLS getting fired, etc., etc. Technically, we don’t really have a head of the BLS right now because the new person has not yet been reconfirmed by the Senate, who was out on leave. Right now, looking at consensus — economist consensus — you should go to ForecastEx and see what our customers are saying. Non-farm payroll is projected to go up by 75,000, but who knows what the revisions will be. Average hourly earnings are expected up 0.3%, stable on a month-over-month basis, and the unemployment rate is projected to creep up to 4.3%. The non-farm payrolls are such a wild card at this point. Who knows? Also, what’s interesting is we fret over some of these numbers, but they’re actually quite minuscule in regard to the size of the employed population in the country. We’re talking about tiny rounding errors — but they mean a lot at the margin to the markets. 

I think an unemployment rate that’s moving in the wrong direction is a clearer signal that the labor market is challenged, because that’s a very visible number. If you ask the person on the street, “We have non-farm payrolls of 75,000 vis-à-vis 250,000,” what does that mean to them? But if you say, “The unemployment rate is 4.3% or 5.2%,” believe me, they’ll have an opinion on that. So I do think that will be the key here. 

To a large extent, a move is priced in. I guess a horrible number — a truly horrible number — would take the odds of, as you say, buy the… yes, it’s seven on the 50-basis-point cut. I don’t see that happening. I just don’t see the Fed’s likelihood of moving that quickly. But it’s not out of the realm of possibility. 

Again, we’ll know soon enough. I think they want to get a cut off the table, be done with it, and stop talking about it. The question is what’s required going forward, and we’ll learn a lot more about that hopefully on Friday. 

Andrew Wilkinson 

8:35 AM Eastern time. 

Steve Sosnick 

8:30. 8:30. 

Andrew Wilkinson 

But 8:35, we’ll probably have an answer. 

Steve Sosnick 

Oh, sorry. 

Andrew Wilkinson 

Steve, you’ve been writing a bit about seasonality. Tell us what that means for stocks’ behavior looking back over many Septembers. 

Steve Sosnick 

There is certainly the mindset that when the calendar flips to September, people get nervous. And to some extent, there is something to be said for that. Summer’s over — psychologically at least in the Northern Hemisphere. And if you’ve had good gains for the year, people might think a bit more about, “How do I preserve my gains?” rather than, “How do I keep adding to them?” Put a little differently, you start to have risk aversion creep in rather than risk assumption — because this market’s really been all about risk assumption for the last three to four months. The more risk you took, the better you did for the most part. And I think there is a little bit of a psychological shift. We saw it start on Friday. Again, there could have been the Lisa Cook stuff. I think some of it had to do with the fact that CPI, when you dug down, was not as in line as it seemed. That certainly continued yesterday — initiated by global bonds and then added on by its own factors. Then we got a little bit of the “buy the dip” around noon once the selling abated. Traders are very astute to look for that, and we got back about half our losses. 

In terms of September, I did some research on this. I actually ran the numbers. Over the past 25 years, using SPX, there have been four months that had average returns below zero. So eight positive months on average, four negative months. The negative months have been extraordinarily slight. Honestly, I don’t remember exactly what they all were offhand — I wrote them in the piece. It was January, I think April or May, and I think June or July. Bottom line. 

September was the main one. Rather than showing very slight average losses of 0.2% or something less, September was greater than 1% over the past 25 years. On the other hand, over those 25 years, 12 of them have been positive Septembers. So your odds of September being up or down are essentially a coin flip. Recent history has not been great. Last year, when we actually had a very solid September — I think up 2% — that broke a five-year down streak. And those five down months were all relatively substantial, even in great up years. That includes 2020, 2021, 2022 — which was a bad year — and 2023, which was a very good year. 

So there are reasons for concern, but I don’t like to trade based on the calendar. I think that’s a little bit fluky. If you want to trade based on the underlying psychology, maybe that underlying psychology has changed — which is also afflicting bond markets right now. Generally more sober bond traders have become even more concerned about their risk/reward. In general, I don’t want to overdo the seasonality. There’s reason for people to be wary at this time of year, but it is not the only reason why one should be buying or selling stocks, or changing one’s risk exposure. It’s always prudent to manage risk. If it took the change in calendar to do so, so be it. But just the fact that the calendar’s turned doesn’t mean we’re going to move in one direction or another. 

Certainly, though, yesterday I got asked that question an awful lot. 

Andrew Wilkinson 

Steve, are you worried at all about the downtick in AI, in Nvidia, following its robust earnings last week? 

Steve Sosnick 

No. Nvidia was up 35% between its last earnings and the most recent — between two earnings ago and this most recent one. It’s inevitable that mentalities start to shift from “let’s throw money at AI” to “let’s make sure it’s a profitable investment.” There was the widely cited MIT report that said 95% of the dollars spent by end users on AI so far have not yielded a return. So at some point you have to wonder: does buying more chips make sense? Now, in the case of Nvidia, we’re talking about “awesome” to “less awesome” in terms of its growth. It’s projected to go from 54% year-on-year growth to 52% year-on-year growth or something like that. Trees don’t grow into the sky. Economic realities do take hold. 

Even Mark Zuckerberg, who was throwing money at AI people — and as loyal as I am to this firm, feel free to throw me an NFL quarterback–size contract to come help you with your AI efforts — but even he said, “Maybe we did a little too much. Maybe we’ve got to cut back on that a little bit here.” 

It’s inevitable as any industry grows that it won’t necessarily do so in a straight line or at a parabolic rate. So Nvidia had a little bit of profit-taking. Was it not due for some after the rally it had? I’m not going to start freaking out. Yes, the stock broke down through its 50-day moving average and bounced back a little bit. That’s trading, that’s investing, and that’s understanding that things are subject to pullbacks. As of now, it’s just a pullback. 

I do think the talk is going to be more toward: how is AI a profitable investment for end users, not just for the proverbial “picks and shovels” manufacturers? If this is a gold rush, Nvidia is Levi Strauss and every shovel maker rolled into one. Then you have the AI providers — let’s say Microsoft, Meta, etc. It’s working for them. But even there, you had Sam Altman come out and pretty much tell us he’s afraid this is getting a little ahead of itself. 

So it’s okay to take a breather. It’s okay for the market to take a breather. That’s all we’ve seen so far. Could it get worse? Yeah. Could it get better? Yeah, sure. That’s why I don’t want to overreact to a couple of days’ pullback after a company that, by any objective measure, put in one hell of a quarter. 

Andrew Wilkinson 

Brilliant. Steve, where are you going to be watching the numbers from on Friday? 

Steve Sosnick 

I’m actually going to be watching them from Yahoo Finance’s studios, where I’ll be part of a live broadcast. So I know where I’ll be. 

Andrew Wilkinson 

Excellent. And I think the big thing to be watching for is the market’s response at the 30-year end of the bond market. Whatever comes out, that’s going to be a key driver, we think. 

Steve Sosnick 

I agree. This 5% level has proven to be somewhat impenetrable. But if it’s penetrated, that could get nasty pretty quickly for bonds — and I think stock traders would have no choice but to take notice. 

Andrew Wilkinson 

Steve, thanks for joining me. 

Steve Sosnick 

My pleasure, Andrew. Talk to you soon. 

Andrew Wilkinson 

All right. Thanks to the audience — and take a minute to subscribe wherever you download your podcasts from.