Sell in May? Don't get taken in by seasonal trading patterns
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It's a tough time if you believe in following historical seasonal indicators for the stock market. Since 1950, April is the second best month for the S & P 500 (up an average 1.5%), and the best month for the Dow Industrials (up an average 1.8%), according to the Stock Trader's Almanac . That hasn't happened this year. With one day left in the month, the S & P 500 is down about 1% in April, the Dow Industrials off by 3.5%. Other seasonal barometers have not been particularly bullish. January was up, an historically optimistic sign, but February and March were down months, as was the first quarter. And one of the most popular seasonal indicators -- the Best Six Months, which runs from November through the end of April — is also negative. The S & P 500 is 2.5% below its close at the end of October of last year. What gives? And should you trade on seasonal indicators? Best six months wraps up It really is rather startling when you look at the returns. There is a lot of noise and randomness in stock trading patterns, and it is often very difficult to find a signal in the noise. But there is a noticeable, roughly 6% difference in the average yearly returns between investing in the Dow Industrials from November through April vs. May through October. Best/worst six months for Dow Industrials (1950-present) November 1-April 30: up 7.4% May 1-Oct. 31: up 0.8% Source: Stock Trader's Almanac Using the same timeline for the S & P 500, Carson Group chief market strategist Ryan Detrick notes November-April are the strongest six months for that benchmark too. Best/worst six months for S & P 500 (1950-present) November 1-April 30: up 7.1% May 1-Oct. 31: up 1.8% Source: Ryan Detrick, Carson Group What accounts for the Best Six Months effect? Why does this happen? Why does the market tend to be higher from November through April? Here's an interesting hint: it's not just in the U.S. The pattern is global. One academic study found that th e pattern was true in 36 of the 37 developed and emerging markets studied, and was particularly strong in Europe. But why? The same authors examined several possible explanations, but concluded "none of these appears to explain the puzzle convincingly." Another study thought it was a product of an "optimism cycle," where investors simply look ahead at the end of the year to the new year with overly optimistic expectations, but that optimism becomes hard to sustain as the new year progresses. A more intriguing explanation comes from a study that looked at the effect of shorter days on investor behavior. In "Winter Blues: A Sad Stock Market Cycle," several academics proposed that this phenomenon was due to the role of seasonal affective disorder (SAD). What does SAD have to do with stock returns? The authors contend that stock returns are related to the amount of daylight and that shorter days cause many to become more risk averse. This risk aversion causes investors to do less, which (by implication) leads to less speculative trading and fewer chances to make mistakes. When the Best Six Months breaks down Given what looks like a strong seasonal pattern, what happens when the Best Six Month pattern breaks down, as it has this year (both the Dow and the S & P are down in the November-April period). Stock market historians noted that in periods when the Best Six Months have been negative, the market has usually struggled. "When the market does not rally during the bullish season other forces are more powerful and when that season ends those forces may really have their say," Jeffrey Hirsch, editor of the Stock Trader's Almanac, said in a recent note to subscribers. Hirsch noted that there have been 16 years since 1950 where the Dow Industrials have been negative in the November-April period (most recently in 2020 and 2022), and that bear markets had ensued or continued in 14 of those 16 years. "Only in 2009 and 2020 were the bear markets already over," Hirsch said. Should anyone trade on seasonals? Whatever the reason, and whatever the historical pattern, the main issue is, should anyone trade on this? The answer is likely no. One reason is the whole catchphrase, "Sell in May, and Go Away" may be a bit overrated. Detrick points out that May has been up in nine of the past 10 years. Maybe we should switch to "sell in June?" The June to November six-month period has also produced sub-par 2.7% returns since 1950, Detrick notes. The lesson here: go ahead and knock yourself out if you want to trade seasonal patterns, but you're probably not going to outperform in the long run. After 35 years of covering markets, here's what I believe: buy and hold beats market timing of any kind. Have a plan, understand how much risk you can afford to take and still be able to sleep at night, and stick to the plan. One simple reason I am not a proponent of market timing of any kind is that the biggest gains in the market occur on only a handful of days each year, and no one knows on which days they will occur. In my book, " Shut Up and Keep Talking: Lessons on Life and Investing From the Floor of the New York Stock Exchange ," I show a simple study by Dimensional Funds that charts the growth of $1,000 invested in the S & P 500 in 1970 through 2019. Hypothetical growth of $1,000 invested in the S & P 500 in 1970 (through August 2019) Total return $138,908 Minus the best 5 days $90,171 Minus the best 15 days $52,246 Minus the best 25 days $32,763 Source: Dimensional Funds These are startling numbers. Taking out the best five days in those 50 years, and your return would be 35% lower, and even less if you were not in the market on the best 15 and 25 days. And remember: you have no idea when those best days will come. If that reasoning doesn't impress you, ask yourself this: what would you do with the money if you pulled it out at the end of April? Put it in Treasury bills? That would be a losing proposition, Larry Swedroe, former head of financial and economic research at Buckingham Strategic Wealth, tells me. Swedroe agrees that the S & P's returns were inferior in the May through October period but that even those inferior returns outperformed Treasury bills on average. The bottom line, Swedroe says: investors are "clearly better off staying invested without even considering taxes."