Why the S&P Could Hit a Snag in August

The S&P 500 Index (SPX) wrapped up a highly successful July last week, tacking on 3.6% for the month. What's more, year-to-date gains as of Friday's close were 6.3%, the best returns since 2013, likely contributing to this unusually bullish sentiment signal. That said, we've just entered into August, which has generated the worst average returns during the last two decades. This raises the question: Where do we go from here? Will the SPX's upward momentum continue or stall?

To help us in our analysis, we enlisted the aid of Schaeffer's Senior Quantitative Analyst Rocky White, who produced the charts below. On the face of it, the prospects for August do not look great. When July is positive, August returns over the past 20 years have historically been worse than usual (1.3% loss vs. 1.2% anytime loss). However, it's also worth noting that volatility, as measured by standard deviation, is considerably lower (3.8%) than either the anytime (4.8%) or negative July (5.7%) readings.

The bad news doesn't stop there. When looking at year-to-date returns, a gain of 5% or more has historically resulted in the sharpest August SPX losses. On average, when the S&P has advanced at least 5% July, its typical August return is a brutal 2.4% drop, compared to an average anytime retreat of 0.5%. Plus, volatility is higher after a 5% year-to-date gain on the SPX through July, conflicting with the volatility observation above.

In short, the S&P's strong July and year-to-date performances suggest stocks could struggle in August. At the same time, this doesn't mean stocks are doomed for 2016. As you can see in the third and final chart below, the SPX's rest-of-year returns can be strong even after a rocky August performance. Bulls can hope that 2016 resembles 2013, when a strong July and year-to-date return paved the way for a 13.2% rest-of-year gain.

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