Shocks and Stocks: History Shows Scares Present Buying Opportunities

Wall Street continues to closely track the chances of a clash with Syria, demonstrating investors’ deep worries about the fallout of another military intervention in the turbulent region.

Jumping oil prices and concerns about the unpredictable consequences of a military strike on Syria helped erase a triple-digit rally for the Dow Industrials on Tuesday.

While market shocks like the Pearl Harbor, the September 11 terrorist attacks and the 2011 Japanese tsunami all triggered knee-jerk selloffs on Wall Street, a careful look at history shows scary events during bull runs proved to be buying opportunities.

“Unanticipated events that occur within bull markets that throw markets for a loop are typically assessed for their economic impact in short order, allowing opportunistic traders to step in and quickly push share prices back to breakeven and beyond,” Sam Stovall, chief investment strategist at S&P Capital IQ, wrote in a note to clients this week.

According to Stovall’s calculations, the S&P 500 has suffered a median decline of 2.4% the day after the last 14 market shocks since World War II.

More On This...

As Wireless Providers Expand, American Tower Buys Global Tower for $3.3B

U.S. Adds 169,000 Jobs In August

Report: Obama Braced for Opposition to Summers Nomination Early On

Pullbacks caused by market shocks have lasted a median of six trading days, erasing 5.3% of the S&P 500’s value over that span. However, the benchmark has been able to recoup all of that ground in just 14 sessions, although some incidents took much longer.

“The U.S. stock markets have weathered a variety of unanticipated shocks over the past 70 years, including wars and near wars, assassinations and attempts, terrorist attacks and financial collapses,” said Stovall.

It is instructive to see how stock prices reacted to another major geopolitical event in the Middle East: the invasion of Kuwait by Iraq in August 1990.

After that aggression by Saddam Hussein, the S&P 500 dropped 1.1% the next day to 351.48. Wall Street didn’t bottom until 49 days later, with the benchmark index plunging 16.9% to 295.46 over that span.

While it took the markets until early 1991 to fully recover, by the end of May of that year the S&P 500 stood at 390.

Bullish Resiliency

Bull-market shocks have had a far more limited impact on equities than their bearish cousins.

For example, the S&P 500 recovered in just six days from a 3.6% slide following the devastating 2011 tsunami and earthquake in Japan.

Likewise, the Madrid bombing in 2004 sparked a 4.1% slide over a 10-day span, but the S&P 500 returned to its previous levels in 18 days.

The collapse of hedge fund Long Term Capital Management, which occurred in 1998 amid the inflating tech bubble, sent the S&P 500 tumbling 10% in 11 trading sessions. But just nine days later the index returned to pre-LTCM levels.

The quickest recovery from a market shock occurred in 1963 after former President John F. Kennedy was assassinated. It took the S&P 500, which tumbled 2.8% the day after the tragic shooting, only two days to recover.

From Pearl Harbor to Lehman Bros.

A number of shocks took significantly longer the median of 14 trading days to recover from.

Stovall said that’s largely because “these extreme situations usually occurred within the confines of a long-term bear market and did not precipitate the initial decline,” pointing to examples such as Pearl Harbor and the collapse of Lehman Brothers.

Stocks plunged 4.9% after trading resumed following the September 11 terrorist attacks. By the time the markets bottomed, five days later, 11.6% of the value of the S&P 500 had been wiped out. It ended up taking stocks just 19 days before they recovered from those losses.

The longest recovery from a market shock is fresh on the minds of most investors: the September 2008 implosion of Lehman Brothers.

While the beaten-down S&P 500 was sitting nervously at 1251.70 the session before Lehman’s epic bankruptcy, the index zoomed down to 1192.7 the next day, representing a 4.7% nosedive. As fears of a depression set in, the S&P 500 ended up plummeting 46% and didn’t bounce back to pre-Lehman levels until 285 trading days later.

It also took Wall Street more than 200 days to bounce back from the attack on Pearl Harbor in December 1941, which sent the S&P 500 diving 10.8% over the next three-plus weeks.

‘Baked In’

It’s too early to tell how a Syria-related shock would impact the stock market, which is keeping a close eye on elevated oil prices.

The decision to ask Congress to vote on the Syrian matter may “cast a pall over investment portfolio decision making,” Tobias Levkovich, top U.S. equity strategist at Citigroup (NYSE:C), told clients this week. “The longer the cloud of policy hesitation and vagueness persists, the greater the potential for it to become a dominant issue.”

Yet the Dow Industrials rallied a combined 120.6 points, or 0.81%, on Tuesday and Wednesday, representing their best two-day performance in a month.

Easing worries about Syria helped drive crude oil $1.31 a barrel lower on Wednesday, representing its third decline in four days.

“At some point, [military action in Syria] gets baked in.  I say that point is soon,” Michael Block, chief strategist at Rhino Trading Partners, said in a note this week.

Stovall concurred, saying that while “some think the impending military response…will trigger a market shock,” it would “probably be one of the most anticipated unanticipated events in modern history.”