Fact or Fiction: Sell in May and Go Away?

“Where is the stock market heading?” is one of the questions most often asked by investors, especially as stock markets seem to be disconnected from economic activity.

Therefore, it is no wonder that even so-called “pop analysis,” including some legendary axioms, is resorted to in a quest for direction. And besides “buy low and sell high” few other axioms are more widely propagated than “sell in May and go away.” A Google (GOOG) search revealed an astounding 126 000 items featuring this phrase.

As stock prices are rising strongly, investors are justifiably questioning the longevity of the rally. And they nervously wonder whether this May will not only herald longer days in the Northern Hemisphere, but also live up to its reputation as the advent of a corrective phase in the markets.

The important issue, however, is whether this axiom actually has any scientific basis at all. While the figures obviously vary from market to market, long-term statistics seem to show that the best time to be invested in equities is the six months from early November through to the end of April of the next year (“good” periods), while the “bad” periods normally occur over the six months from May to October.

A study of the MSCI World Index, a commonly used benchmark for global equity markets, reveals that since 1969 “good” periods returned 8.4% per annum while investors were actually in the red during the “bad” periods by -0.4% per annum. Interestingly, this phenomenon – of “good” period returns outperforming those of “bad” periods – applied to all 18 markets where MSCI computed index returns.

“Sell in May and go away” also holds true for the U.S. stock markets. An updated study by Plexus Asset Management of the S&P 500 Index shows that the returns of the “good” six-month periods from January 1950 to December 2007 were 8.5% per annum whereas those of the “bad” periods were 3.2% per annum.

A study of the pattern in monthly returns reveals that the “bad” periods of the S&P 500 Index are quite distinct with every single one of the six months from May to October having lower average monthly returns than the six months of the good periods.

click to enlarge

But what exactly does this mean for the investor who contemplates timing the market by selling in May and reinvesting in November?

Further analysis shows that had one kept the investment in the S&P 500 Index only during the “good” six-month periods, and reinvested the proceeds in the money market during the “bad” six-month periods, the total return would have been 11.2% per annum. But, the best strategy would in fact have been to discard the “sell in May” axiom and rather ride out the “good” and “bad” periods as the annual return on this investment was 11.9% per annum.

The difference of 0.7% per annum may seem insignificant, but over such a long period of time this would have made a very sizeable difference in monetary value.

These calculations also do not take tax into account, and as the returns on the money market have been calculated gross of tax, the result would have been even more in favor of remaining fully invested in equities. And, of course, every time one switches out of and back into the stock market there are costs involved, which would also reduce the returns for the market timer.

The axiom “sell in May and go away” in itself seems to be a rather doubtful basis for timing equity investments in the U.S. However, it may serve a useful purpose as input, together with other factors, to otherwise rational decision-making.

Comments

[curious cat]

i have a brother who doesn't gamble during lent. that's forty days during which he buys no lottery tickets, bets no horses and plays no cards. so, ironically, his friends can borrow money from him during lent. i'm sure he's better off for his sacrifice, but hey, one in every family, right? no need for me to stop trading.

[hector2]

As we are now into May, I had the very same thoughts. However, I began to wonder what do hedge funds do--does anyone track them during this period. I am of course under the impression they the mostly get it right. I am hesitant to sell and go away as cash is paying so little, and waiting it does not lead to losses.

[xing-hu]

sort of cocktail party chatter.Had my broker told this I would think about changing brokers. The difference is not statistically reliable in the SP time series, and certainly not across all markets on a total return basis. A well Diversified set of holdings has a place in all portfolios, even traders portfolios, as does some gold, cash, tech....etc. A yum Yum with your name on it right?

[iThinkBig]

In the short-term commodities should cool down. Long-term, this looks to be the beginning of a sustained bull run. I'll see what Washington does in the short-term in energy policy and if the country can get a comprehensive energy crisis, independence bill passed and subsidize it with $200 B like it should. If not, I am investing in ammo and a vacation cabin 50 miles from the nearest major metro.

[fredlee]

Commodities will only "cool down" in corrections and minor supply/demand divergences. There will NEVER be a protracted cutback in ANY commodity. To understand why, you only need to understand how fiat money works. If you do, you will invest better, and sleep at night, trust me. Prices for reuseable, non replenishing items that the world needs will never go down, because of inflation, and increasing demand. The price for oil must remain high to make it viable for us to get the oil in the shale that starts its cost base at $80 a barrel. With that oil in our backyard, we will be fine short and medium term for oil. Our oil consumption may actually plateau here in America for a few years. More drivers, but better fuel efficient cars and less driving will keep it a negative or slightly positive.

[fredlee]

If the united states wanted too, we could drive the price of oil to $100 a barrel, and keep it there for 10 years. But our plan is too drain the middleeast first, make it a cause of fear, so they can control you and keep you quiet. Trust me, that regions importance will be an after thought in 15 years. The only reason the region has importance is because of biblical and religious reasons. We are purposefully dependent on oil, it was a purposeful plan enacted and kept by every US president since oil became important. Our laws, our infrastructure, the way we do business is all driven by oil and cars, and that system on purpose.Just an excuse to keep us scared and in line.

[fredlee]

Harder to control the people when they arent worried about how they are going to get to work and how much they have to pay for it. People with few worries tend to care more about being ripped off by their government and large corporations. Dont have time to worry about politics if you can barely feed ur family. Ironic isnt it? The people who should care the most about politics dont give a crap.

[Zackman]

Going away in May is a good strategy during NON-ELECTION years. Typically during the election year the market picks up in May after dropping during the first part of the year (the good period?) and does well until late in the year. In the typical election year the SP500 ends up about 10% for the year after being slightly down until the end of May. Other than the election year going away in May pays off.