It is that time of year again when traders try to predict whether this year's summer cycle will compel them to dump stocks in May only to return in the Fall.
In previous posts on the "sell in May" cycle, I have come to the following conclusions:
- "Summer's Positive Gains Can Come With High Risks" (June 1, 2011): the summer tends to be a profitable time to trade, although it comes with high risks. If the S&P 500 (SPY) sells off during the summer, it tends to drop hard and far. 2011 was a classic example of this dynamic.
- "Trading Around May" (May 24, 2008): "It is not typical for the market to top out in May for the year. When May is not the high for the year, traders get all summer long for repeated chances to bail for the year." Of course, last year, the market topped out for the year right at the beginning of May!
With the S&P 500 flirting with multi-year highs just like last May, I wondered at what point in May does the S&P 500 tend to peak? A quick turn of the data crank reveals that from 1950-2011, May tends to peak at the start or end of the month. The chart below shows that 35% of the time, May peaks in the first third of the month. Another 35% of the time, May peaks in the last 20% of the month with a strong tendency for the very end of the month to deliver the peak.
Source: price data from Y!Finance
Here is how to read the chart:
The x-axis represents a range of trading days in May. To account for the different number of trading days from year to year (20 to 22), I converted ranges into percentage of the month. So if a given May has 20 trading days, then the (90-100]% range represents the last two trading days of the month - days 19 and 20. Day #18 is the 90% point, but it belongs to the (80-90]% range. The y-axis provides the frequency of occurrence for a given range. Again, using the (90-100]% range, the vertical bar stretching to 25% means that 25% of all years delivered a May peak in the last two trading days of the month. I used data from 1950 to 2011 from Y! Finance.
If May is so consistently treacherous, one might expect traders to sell in April to get ahead of the killing fields. Yet, it does not show up in the data. Perhaps they are exceptionally disciplined at picking their spots in May. I figured that the worse the performance in April, the earlier the peak in May as the selling continued and/or traders took their cue. Or maybe very good Aprils would keep optimism flowing later into May. Neither relationship shows up in the data. In fact, there appears to be absolutely no relationship between April's price performance and the point at which the S&P 500 peaks in May. The red line in the chart below shows the price performance for last month.
The S&P 500's April Price Performance Vs. the Timing of May's Peak
Source: price data from Y!Finance
In other words, traders worried about the sell-in-May cycle can likely afford to wait until May (or later) to time their exodus. In "Sell In May and Go Away?" the incomparable Jeff Macke has a little fun with Jeff Hirsch, the author of the Stock Trader's Almanac 2012, by pestering him for specific advice on when and how to trade the sell-in-May cycle (this time combined with the Presidential election cycle!). Hirsch states that the Dow Jones Industrial Average (DIA) returns on average 7.5% from November to April and only 0.3% from May to October. For the long-term investor, it is hardly worth bailing on these numbers. However traders will note that these numbers definitely indicate higher downside risks from May to October (as I intimated above, this downside volatility typically represents buying opportunities).
Macke presses Hirsch for a specific time in May to sell, but Hirsch advises following "technical indicators." If history holds true, get nervous early in May and get really anxious toward the end of the month.
Be careful out there!
Disclosure: I am long SDS.