Practical analysis for investment professionals
05 October 2022

The Witch of October Is Here: Remember Short-Term Pain = Long-Term Progress

The month of October strikes fear in the hearts of many Wall Street veterans — and for good reason. Over the last 123 years, 7 of the 10 worst days in US stock market history occurred during this seemingly haunted 31-day stretch.

But there’s nothing supernatural about these October scares: They are the remnants of the 19th century agricultural financing cycle. During the 1800s, farmers harvested and shipped their crops to market in the fall, paying for the operation with large withdrawals from their local banks. These banks, in turn, withdrew funds from larger New York City banks and trusts to replenish their reserves, which made Wall Street financial markets especially vulnerable to panics. Even after the United States transitioned to an industrial economy and re-established a central banking system in the early 1900s, the memories of past Octobers seem to have conditioned investors to erupt in panic out of habit. October 2022 may be just the latest manifestation.

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Costs of Closet Tactical Asset Allocation

Panic is the mortal enemy of long-term investors, especially in volatile markets, but that does not mean that we should sit idly by in the face of another October scare. At times like these, the late David Swensen‘s observation in his classic Unconventional Success is worth remembering:

“Perhaps the most frequent variant of market timing comes not in the form of explicit bets for and against asset classes, but in the form of passive drift away from target allocations.”

Many investors fail to heed this advice at the very moments when it is most valuable. Instead, they let their gains ride in bull markets and then freeze up when markets descend into bear territory. This is precisely the insidious form of tactical asset allocation referenced by Swensen.

But history shows this is never wise. For every savant who successfully traverses the treacherous macroeconomic currents, many more suffer financial ruin while making the attempt. Failure to rebalance may not be ruinous, but it will almost certainly drag down long-term returns.


Dow Jones Industrial Average: 10 Worst Trading Days:

DateOne-Day Decline
19 October 1987-22.6%
28 October 1929-12.8%
29 October 1929-11.7%
18 December 1899-8.7%
14 March 1907-8.2%
26 October 1987-8%
15 October 2008-7.9%
18 October 1937-7.8%
1 December 2008-7.7%
8 October 2008-7.3%
Source: Dividend.com

So, why is such tactical asset allocation so common among pension funds, foundations, endowments, and other institutional investors? Since many are advised by non-discretionary investment consultants who lack the authority to rebalance portfolios, they simply neglect to advise their clients to do so. But trustees need to take the initiative and ensure that they follow through on rebalancing during times like these.

Book jackets of Financial Market History: Reflections on the Past for Investors Today

Short-Term Pain and Long-Term Gain

In Principles, Ray Dalio advises readers to seek painful feedback so that they can confront their deficits and attain the insight necessary to eliminate them. He often repeats the mantra: Pain + Reflection = Progress. Economic events follow a similar principle. Today’s economic pain will likely intensify in the coming months, but that doesn’t mean that we suffer needlessly. The mistakes of the past must be corrected. Elevated inflation has persisted for too long, and re-establishing price stability is absolutely essential to ensure future economic prosperity. We learned this in the 1980s. There is no need to learn it again in the 2020s. We have to break the back of inflation, and while that will be painful, it will be worth it.

Today’s hardships will not be for naught. After the recession of 1981 and 1982 subsided, the US economy came back stronger. Fueled by extraordinary technological innovation, the country went on to enjoy two decades of economic prosperity.

The past two and a half years have had plenty of financial scares. We may see more this October and in the months ahead. But when it passes, we will breathe freely again. In the meantime, we need to steel our nerves, rebalance our portfolios, and trust that the pain we suffer now will be rewarded in the future.

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image credit: ©Getty Images/Đorđe Milutinović


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About the Author(s)
Mark J. Higgins, CFA, CFP

Mark J. Higgins, CFA, CFP, is an author, financial historian, and frequent contributor to Enterprising Investor. His work draws from his upcoming book, Becoming an Enlightened Investor, which will arrive in bookstores in fall 2023. For those interested in receiving updates on the book and his research, please feel free to send your contact information. Prior to founding The Enlightened Investor, LLC, Higgins served as a senior investment consultant for more than 12 years. In this role, he advised the trustees of large pension plans, foundations, endowments, and insurance reserves that had aggregate assets of more than $60 billion. As a consultant, he discovered that understanding financial history proved much more valuable than tracking the latest economic data. He also discovered that there was no single book that recounted the full financial history of the United States. Becoming an Enlightened Investor seeks to fill this void. The insights are intended to help investors contextualize current events and thereby improve their investment decisions. The book will be published and distributed by the Greenleaf Book Group and will be available for purchase online and in bookstores in fall 2023.

2 thoughts on “The Witch of October Is Here: Remember Short-Term Pain = Long-Term Progress”

  1. Kirk Cornwell says:

    Rebalancing generates commissions and taxes, but you can do worse than “dance with the lady who brought you.” Long-term is forever.

  2. Alex Radford says:

    To be successful in any field, it is necessary to analyze the mistakes that you have made in the past and learn from them to ensure that they do not happen again. This statement holds true in financial markets as volatile markets come and go throughout the years. These volatile markets often produce bad days for US stock market in the month of October; with 70% of the worst days in US stock market history occurring during this month. Investors make investments into various asset classes with a specific target allocation for each class. During panics, many investors move assets away from a certain class and into another class or sit by and wait for the panic to pass. According to David Swensen, “Perhaps the most frequent variant of market timing comes not in the form of explicit bets for and against asset classes, but in the form of passive drift away from target allocations” (Higgins). Instead of following the plan they have in place for how much funds were allocated to each target class, they panic and let their gains ride into bull markets then become even more panicked and freeze up when markets fall into bear territory. Instead of having this trend continue, investors should always rebalance their portfolio even if they feel uncertain because of the volatile market. As wise investors, we must learn from our mistakes to ensure that we rebalance our portfolios and do not panic and freeze up during times of uncertainty.
    Overall, this article does a good job at exhibiting why most of the US stock market’s worst days have occurred in October. We saw that the financial scares that occur in October are remains of the agricultural financing cycling of the 1800s where farmers harvested and shipped crops in the fall. These shipments were funded by large cash withdrawals from local banks which then withdrew the cash from the New York City banks and trusts (Higgins). These numerous large withdrawals around the same time made Wall Street financial markets susceptible to panic. Although the United States has moved to an industrial economy with a central banking system, the numerous scares that have occurred in October throughout the years have caused investors to become conditioned to panic during this time (Higgins).
    As an investor, you must be aware of trends and rebalance your portfolio when necessary. Historically, September has had more down markets than October, but October has had more singular bad days that September (Beattie). This shows that the “October effect” is very psychologically driven and if investors rebalance their portfolios accordingly instead of giving into the October scare, the dreaded “October effect” can be mitigated or reduced drastically. The hesitancy to tactically allocate assets is due to the fact that many funds are advised by non-discretionary investment consultants who do not have the authority to rebalance portfolios (Higgins). Because they do not have the authority to rebalance portfolios, they often neglect to advise their clients to do so. Trustees must take action to guarantee that they do indeed rebalance during times of uncertainty.

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