EDMOND — ‘Tis the season. No, not that season. The season of the stock market when you need to go away. Well, almost, anyway. There’s an old saying about a trading pattern on Wall Street that says “Sell in May and go away.” Then you’re supposed to come back and buy again in November. Does it really work? Yes and no.

There is certainly something to it, though. The market has a proven tendency to make most of its gains between November and May, and experiences most of its losses in the remaining months. Some people dismiss the idea as an interesting theory that doesn’t always work. But it’s not a theory; it’s a proven fact. In spite of the few years when it has not worked, investing over the long term based on the market’s seasonality significantly outperforms the market, and with much less risk.

Don’t take my word for it. Academic studies provide clear evidence. For instance, a study published in the 2002 American Economic Review concludes, “We found that this inherited wisdom of Sell in May to be true in 36 of 37 developed and emerging markets.” It went on to say that, “A trading strategy based on this anomaly would be highly profitable in many countries. The annual risk-adjusted outperformance ranges between 1.5 percent and 8.9 percent annually depending on the country being considered. The effect is robust over time, economically significant, unlikely to be caused by data-mining, and not related to taking excess risk.”  

Another study in 2008 at the New Zealand Institute of Advanced Study, which focused solely on the U.S. stock market, concluded that “All U.S. stock market sectors, and 48 and out of 49 U.S. industry sectors, performed better during the winter months than summer months in our sampling from 1926-2006.”

Of course, it doesn’t work every year, but let’s put that into context. To begin with, no strategy, particularly a buy and hold strategy, works every year. And that is also true of seasonality. For instance, it underperformed in 2003 and 2009. In those years the market made gains in the winter months, and then, fueled by massive government stimulus programs, continued still higher during the summer months when a seasonal investor would have been in cash or invested in something other than stocks.

But the seasonal investor did not lose money by being out of the market in the unfavorable season in those years. He or she merely missed further gains. But when an investor is in the market in unfavorable seasons in which the market experiences the serious declines that most often take place in unfavorable seasons, that investor actually loses money. Those losses can be substantial, with investors giving back much, if not all of the gains made in the previous favorable season. For instance, from May 1 to its low during the summer months, the S&P 500 lost 22 percent of its value in 2001, 24 percent in 2002, 38 percent in 2008, and even 16 percent in the early summer correction in the positive year last year. Those are the experiences that created the “lost decade” that buy and hold investors experienced but which seasonal investors avoided.

Seasonality could be even more important this year than in other years. There are negative factors working against the economy and market to a degree not seen in a number of years. They include rising inflation; global central banks raising interest rates to ward off inflation, which is also likely to slow their economic growth; signs of the U.S. economy slowing again (sharp declines in home sales, durable goods orders, and consumer confidence); the coming end of the Federal Reserve’s QE2 stimulus efforts in June; and the austerity measures Congress will be forcing on the country in efforts to bring the record budget deficit under control.

Then there is the high level of investor bullishness usually seen near market tops. For instance, the Investors Intelligence Sentiment survey shows bullishness has jumped up to 57 percent, while bearishness has fallen to just 15.7 percent. That spread of 41.6 percent is considered to be in a danger zone. The last time it reached 40 percent was in October 2007 as the market topped out coming into the 2007-09 bear market.

The traditional seasonality maxim, ‘Sell in May and Go Away’, calls for buying Nov. 1 and selling on May 1 of the following year. Those dates were the basis for the academic studies mentioned earlier. But obviously a positive market move does not begin and end on the same day each year. That’s just the general time frame. Depending on what is going on, the sell date could be as early as mid-April or as late as mid-June.

So, will this strategy work in 2011? Beats me. But given the negative items I listed above, and a market that has experienced a substantial rally since March 2009, it certainly is something to be aware of.

One closing topic I want to share with you. It’s totally unrelated to the subject of this column but I just can’t resist. I have written before how gold may well be in a bubble. Here is one more indicator. It appears now that the Islamic Republic of Iran, that bastion of cutting-edge modern finance and economic theory, recently has converted a significant amount of its currency reserves into gold in order to avoid holding the dollars of the Great Satan. According to WikiLeaks, the gold buying was an attempt to avoid currency seizure by hostile powers. You can’t make this stuff up, folks. Thanks for reading.



NICK MASSEY is a financial adviser and owner of Householder Group Financial Advisors in Edmond. Massey can be reached at www.nickmassey.com. Securities offered through Securities Service Network Inc., member FINRA/SIPC.