Forget 'Sell in May', What Did Stocks Do Since November?

JC Parets
May 1, 2018

I think seasonality is often misused. Although economic cycles, political climates and public markets are constantly changing, the behavior patterns of humans remain the same. I spend a lot of time studying cognitive behavior and markets and it is very clear how foolish humans can be, including the robots they build. We behave in specific ways during some parts of the year and completely different in others. Those cycles play a role in annual cycles.

One of the most popular, and misunderstood, is the old "Sell in May and Go Away". But what exactly does that mean? Should we blindly enter the month of May with a bearish selling strategy? Does that sound like a good idea? Historically stocks are up for the month of May about half the time and since 1950 the S&P and Dow average a 0% return. June has a similar history of 0% average returns and positive return close to half the time. But that's not really what we're interested in here, which is my point.

We care more about what this "Sell in May and Go Away" saying means for rest of the year and what it says about the current behavior of investors? Remember, the reason this phrase is popular is because May is the beginning of the "Worst 6 months" of the year. More importantly, it's the end of the "Best 6 months". The reason I refer to it as more important is because we take the information we get during the past 6 months to help us make decisions about the next 6 months. Were stocks up during the November - April period? Did they do what they were supposed to do - rally? Or were there larger selling forces at work? 

Think about this: Every single point made in the Dow Jones Industrial Average from 1950-2016 was made between November 1st and April 30th. That's an astounding statistic. The Dow gained 20,790.89 points during just these 6 months over 67 years. The remaining May-October months actually lost 64.71 points.

During the best 6 months, the Dow averages about a 7.6% return and is positive 80% of all years. When stocks are down during that period, it's a heads up that something bigger is happening. The buyers that are used to overwhelming the sellers during this time of the year failed to do so.

For example, in 2007 the Dow lost 8% during this period instead of rallying like it was supposed to do. That preceded the financial crisis. In 2000, stocks fell 2.2% during this period and struggles persisted for several years after that.

This year the Dow Jones Industrial Average was up 785.91 points during the Best 6 Months. This represents a 3.3% return. The fact that the buyers did show up does not contradict seasonal strength. A down period during those 6 months would be a warning of more weakness ahead. To be clear, that did not occur.

While we're on the subject, I'd like to point out that this works in both directions. We are now looking to see of seasonal weakness from May through October is recognized or ignored by the buyers and sellers. A great recent example was before the U.S. elections in November of 2016. Let's remember that this event was right after the Worst 6 Months had ended, a period usually accompanied by selling pressure. Well, the Dow was up 2% and Small-caps were actually up over 5%. I was pounding the table bullish stocks and bearish bonds at the time and this seasonal evidence helped me make that decision.

For me, it's not so much about what to do heading into May 1st or coming up with some cute headline to help drive clicks. We take a weight of the evidence approach, and recognizing when markets ignore seasonal trends is part of that evidence weighing process. Right now, markets are simply behaving the way they are supposed to be and I see little reason to overthink it. At our shop, we're just going to keep going about our business.

If you're interested in the story, the saying originally went like this:

Sell in May and go away. Stay away till St. Leger's Day"

The inference is that there is no point trading in the summer. All the brokers and fund managers will be out in the Hamptons working on their tans. The saying suggests that the big boys won’t get back to business until Horse Racing season in England is over in the Fall. The British have been celebrating this day in September since the St. Leger Stakes, last leg of the English Triple Crown, was established in 1776. We Americans like to call this time of year, “Football Season”.

It's an interesting story. It rhymes, so it must be true right? You can make it sexy if you want. But for us, there is no relevant information to act on right now. We're focused on other things.

(Premium) See New Monthly Chart Analysis

Cheers,

JC

 

 

Source:

Stock Traders Almanac (2018)

Filed Under:
All