A widely recognized adage in finance is “Sell in May and go away,” rooted in the historical trend of stocks performing less favorably over the six-month span from May to October.
The historical model gained prominence through The Stock Trader’s Almanac, asserting that investing in stocks represented by the Dow Jones Industrial Average during the period from November to April and transitioning to fixed income in the subsequent six months yielded consistent returns with reduced risk since 1950.
This divergence in performance has remained conspicuous in recent times, with the S&P 500 demonstrating an average gain of approximately 2% from May to October since 1990, contrasting with an average increase of about 7% from November to April.
Seasonal dependence
In the past, financial markets used to be swayed by seasonal patterns linked to agriculture, but these influences have diminished significantly due to the substantial decrease in the economic significance of the agricultural sector.
The persistence of seasonality in investment flows may be attributed to year-end bonuses in the financial industry and business sector, often fueled by the approaching mid-April U.S. income tax filing deadline.
Regardless of the underlying reasons for this trend, the historical perspective has become more prominent, especially in the aftermath of the stock market crashes that occurred in October 1987 and 2008.
What if you DO NOT sell in May and DO NOT leave?
The limitation of historical patterns lies in their unreliable ability to predict the future, particularly when dealing with well-known patterns. If a sufficient number of traders were to adopt and act upon a widely recognized pattern like “Sell in May and Go Away,” its effectiveness would likely diminish almost immediately.
In such a scenario, savvy sellers would aim to liquidate their shares in April, creating a competitive environment as they simultaneously bet against each other to repurchase shares before the anticipated October rebound. Seasonal trend averages, while presenting historical trends, tend to obscure substantial year-to-year variations. In any given year, the impact of seasonality is often overshadowed by numerous other, sometimes more pressing, factors.
The strategy of selling in May wouldn’t have proven advantageous in 2020, for instance, as the S&P 500 experienced a 34% decline in just five weeks in February and March due to the pandemic and subsequent lockdown. However, the index rebounded by 12.4% from May to October. Similarly, initiating a successful “sell in May” strategy would not have been feasible at the beginning of 2022, given that the S&P 500 index had already fallen by 8.8% in April.
In summary, while historical patterns may be evident, their ability to predict future market movements is dubious, and the potential opportunity costs can be substantial.
