February: A Month For Investing?

February is not a great month for the stock market. Since 1945, the S&P 500 has suffered an average loss of around -0.3% in February, compared to an average gain of roughly +0.8% for the other months of the calendar year. February has a reputation for being one of the worst months for the stock market, and history says investors should brace for fresh turmoil.

However, this was not the case in February 2024, when the S&P 500 was up 3.8%, and the Nasdaq Composite was up 4.4%. Some individual stocks, such as Nvidia and Super Micro Computer, also surged in February of that year.

While February may be great for romance, it is not so great for the stock market.

The S&P 500 has a history of poor performance in February

The S&P 500 is a stock market index that tracks the stock performance of 500 of the largest companies listed on US stock exchanges. It is one of the most widely followed equity indices, including around 80% of the total market capitalisation of US public companies.

The index has a long history, dating back to the 1920s, but only assumed its present structure in 1957, when it expanded to include 500 companies. Since its inception, the S&P 500 has delivered an average annualised return of 9.90%. However, this average can be misleading, as timing is crucial when it comes to investing in the index.

While the S&P 500 has delivered strong returns over the long term, its performance has been uneven, with periods of high growth interspersed with sharp declines. Notably, the index has a history of poor performance in February. For example, on February 5, 2018, the S&P 500 registered a new largest daily point loss of 113.19 points, or more than 4%. Just three days later, the index suffered another heavy loss of nearly the same amount. This volatility was attributed to an increase in market volatility.

Another notable example of the S&P 500's poor performance in February occurred during the dot-com bubble of the late 1990s. On February 12, 1997, the index surpassed 800, and on February 2, 1998, it reached 1,000. However, by March 2000, the index had peaked and began to decline, falling to 768.83 by October 2002. It would take until October 2007 for the index to surpass its March 2000 intraday trading high.

In summary, while the S&P 500 has delivered strong returns over the long term, its performance has been uneven, and it has a history of volatility and sharp declines, particularly during the month of February. Therefore, investors considering investing in the S&P 500 should be mindful of the potential risks and be cautious about market timing.

The Nasdaq Composite has also historically performed poorly in February

February is not typically a strong month for the stock market. Since 1945, the S&P 500 has suffered an average loss of around 0.3% in February, compared to an average gain of roughly 0.8% for the other months of the calendar.

The Nasdaq Composite index fell by approximately 2,400 points in the four weeks from February 12 to March 11, 2020, but it has since recovered. In February 2020, just before the global coronavirus pandemic, the index stood at a little over 9,700 points. It peaked at over 16,000 points between the end of March and the beginning of April 2024.

The poor performance of the Nasdaq Composite in February could be attributed to various factors, such as market corrections, economic slowdowns, trade tensions, and interest rate hikes. For example, in February 2019, the S&P 500 suffered its biggest monthly gain since October 2015, which may have contributed to a subsequent pullback in the Nasdaq Composite in February 2020.

It's worth noting that historical performance doesn't always predict future trends, and other factors can influence the market. However, investors should be cautious about making new purchases in February, as it is historically one of the weakest months of the year.

The Federal Reserve's monetary policy affects investor sentiment

The Federal Reserve's monetary policy has a significant impact on investor sentiment and stock price action. The Fed's primary objectives are to promote maximum employment, maintain stable prices, and keep moderate long-term interest rates to encourage sustainable economic growth. The Fed achieves these goals by employing expansionary or contractionary policies, depending on economic conditions. Expansionary policies are used during economic slowdowns to stimulate growth by lowering interest rates, making borrowing more affordable, and encouraging consumer spending and business investment. On the other hand, contractionary policies are implemented during inflationary periods to slow economic growth and curb inflation by raising interest rates, making borrowing more expensive, and reducing the money supply.

The Federal Reserve's interest rate decisions have a direct impact on investor sentiment. When the Fed cuts interest rates, it encourages investors to take on more risk, benefiting asset classes like equities and real estate. Lower interest rates make fixed-income investments less attractive, driving investors towards riskier assets. Additionally, lower rates reduce borrowing costs for businesses and consumers, leading to increased spending and investment. In contrast, when the Fed raises interest rates, investors tend to become more risk-averse. Higher interest rates make borrowing more expensive, impacting the performance of equities and other riskier assets. Investors may shift their focus to cash deposits or other less risky investments.

The Federal Reserve's monetary policy also influences the performance of bonds. During periods of low-interest rates, previously issued bonds become more attractive as they offer higher yields compared to newly issued bonds. This increase in demand drives up the prices of existing bonds. Conversely, when interest rates rise, newer bonds with higher fixed yields become more appealing, causing a drop in demand and prices for previously issued bonds.

The Federal Reserve's actions can further impact the volatility of the market. For example, during times of rising inflation, which often precedes restrictive monetary policy, investors begin to speculate on the increasing costs of goods and services. This speculation contributes to market volatility, affecting returns on equities and other risky investments.

In addition to interest rate adjustments, the Federal Reserve employs other tools to influence monetary policy, including open market operations, changes to the discount rate, and modifications to reserve requirements. These tools allow the Fed to manage the money supply and influence borrowing, spending, and savings rates.

Overall, the Federal Reserve's monetary policy significantly affects investor sentiment and investment decisions. Investors closely monitor the Fed's actions and adjust their portfolios accordingly, seeking to capitalize on opportunities presented by changing economic conditions.

The stock market's performance in January can influence February's results

The stock market's performance in January can have a notable influence on the subsequent results in February. Historically, the month of January has been associated with a seasonal increase in stock prices, known as the "January effect". This phenomenon is attributed to various factors, including tax-loss harvesting, year-end bonuses, and investor psychology. However, the impact of the January effect has diminished in recent years due to the increasing popularity of tax-sheltered retirement plans and the proactive adjustments made by investors.

The performance of the stock market in January can set the tone for the rest of the year. A strong January, marked by consistent gains, often indicates a bullish market for the upcoming months. On the other hand, a down month in January may foreshadow weaker returns for the remaining eleven months. This relationship between January's performance and the overall year's market trend is known as the "January barometer".

While the influence of the January effect has waned, it still plays a role in shaping the market dynamics in February. Negative Januaries have been followed by negative Februaries in several instances. Since 1990, out of the 15 years with down Januaries, eight have been followed by down Februaries. This pattern suggests that the performance in the first month of the year can have a lingering impact on investor sentiment and market behaviour in the short term.

Additionally, the stock market's performance in January can be indicative of broader economic trends and investor confidence. A strong January performance may reflect positive economic indicators, such as progress in trade negotiations, favorable interest rate decisions, and better-than-expected corporate earnings. These factors can contribute to a rebound in stock prices and set a positive tone for February.

However, it is important to note that the relationship between January and February's market performance is complex and influenced by various factors. Other market anomalies, such as the "February effect", also come into play, with February historically being one of the weakest months for the stock market. Therefore, while January's performance can influence February's results, it is not the sole determinant, and other factors and market trends also come into play.

The stock market's long-term performance is more important than short-term volatility

While February is historically a flat month for US stocks, with the S&P 500 posting a net gain in 20 out of the past 33 Februaries, the stock market's long-term performance is more important than short-term volatility.

Volatility refers to how quickly markets move, and it is a metric closely watched by traders. It is a statistical measure of the dispersion of returns for a given security or market index. In most cases, the higher the volatility, the riskier the security. Volatile assets are considered riskier because their prices are expected to be less predictable.

Short-term measures of volatility can fluctuate, but over the long term, the market has been remarkably stable. For example, despite dramatic swings in share prices, the volatility companies have experienced over intervals of five years is still far below the peak levels of the last four decades.

Volatility is often associated with big swings in either direction. For example, when the stock market rises and falls more than 1% over a sustained period, it is called a volatile market. A volatile market can create opportunities for day traders to enter and exit positions, and it is also a key component in options pricing and trading.

There are several ways to measure volatility, including beta coefficients, option pricing models, and standard deviations of returns. The primary measure used by traders and analysts is the standard deviation, which reflects the average amount a stock's price has differed from the mean over a period of time.

While volatility can be distressing for investors as prices can swing wildly or fall suddenly, long-term investors are advised to ignore short-term volatility and stay the course. This is because, over time, stock markets tend to rise.

Some investors can also use volatility to their advantage by adding to their portfolios when prices are relatively cheap. Hedging strategies can also be used to navigate volatility, such as buying protective puts to limit downside losses without selling any shares.

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