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Oktoberfist: Digesting October’s Sucker Punch
By Ron Surz
November 11, 2008

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OktoberfistIn April of this year I began writing about the miserable stock markets we’ve experienced in this first decade of the 21st century, recommending heightened due diligence and suggesting that things might even get worse.

They have, big time.

My last update on this mess was released on October 5, and covered the year to date through September. Then toward the end of October I alerted readers to some serious problems in style indexes and target date indexes. Now this writing brings these latest two commentaries up to date through an ugly October. I normally wouldn’t bother with a monthly commentary, but October 2008 was like a punch to the stomach by a giant fist – an October Fist. I’d like to help you and your clients get your wind back, so I’ve updated my suggestions and observations in the following. Please let me know what you think. These are tough times and I’m here to help.

Update to “A Decrepit Decade Continues

 We are experiencing the worst decade ever in stock market history, and it just keeps deteriorating. Because of the 17% October loss, the year 2008 could be legendary and could clinch the race for the worst decade as well. We are now down 34% for the year-to-date, in an inflationary environment that has increased 4% so far, so our real (net of inflation loss) is 38%. As shown in the following exhibit, there have been only 3 calendar years with real losses in excess of 30%: 1931, 1937 and 1974. There’s some good news and some bad news about being in this infamous club. First the good news. All three of these years were followed by years with positive returns, and 1938 and 1975 were particularly good, both returning about 30% real.

Now for the potentially bad news. Stock markets, as measured by the S&P500, have had 12-month periods with far worse losses than -30%-plus real returns of 2008. The worst 12-month return ever was for the 12 months ending June, 1932, when the real loss was 68%, so the apparent 40% loss floor shown as the lowest return in the exhibit is not the true historic abyss. The 5-month real loss for June-October, 2008 exceeds 35%, so it’s conceivable that losses in the next 7 months could put us in the record books.  A further decline of 50% between now and May, 2009, would set the record for a 12-month period. Seem unlikely? Let’s hope.

We are making history, albeit history we would rather not experience.

Real Annual Returns

Since I covered the year-to-date through September in my earlier commentary, I’ll limit this discussion to just the horrific month of October.

As the following two exhibits show, there has been no place to hide in the long-only equity markets. On the sector front, every sector has lost value, with the best of the bad news coming in Staples, losing only 11%. The spread between the best performing (Staples) sector and the worst performing (Materials) sector is a whopping 1600 basis points  -- in just one month. Sector allocations mattered big time in October. Surprisingly, Finance was not the worst performing sector. The Chindia infrastructure sectors – Energy, Materials and Industrials—joined with Discretionary to all lose about the same as Finance. This clustering of losses can be explained by a combination of continued deleveraging, selling past winners, plus expected cutbacks in consumer spending.

  On the US style front, every style lost value, with the stuff in the middle surprising us by not performing in between. Large core has defended best, losing only 15%, versus 16% and 18% losses in large value and large growth, respectively. Our definition of “Core” is the stuff in the middle, between value and growth. Our style definitions are mutually exclusive and exhaustive, making them excellent for style analyses, both returns-based and holdings-based. Core tends to shine when investors lack conviction, unsure about which style to emphasize. We use Surz Styles and Countries throughout this commentary, as described at <Surz Style Indexes>. See the section that follows on “Warning” for more on the importance of Core, especially this year.


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