When it comes to the month of May, there is a trading strategy that puts investors into one of two opposing camps. The first group looks at the stock market in May and is reminded of the traditional festivities associated with May Day: singing, dancing, decorating maypoles and celebrating spring's arrival. In other words, everything is rosy so there's no need to change course from an investment perspective. For the second group of investors it's the exact opposite. For them it's more like, "Mayday! Mayday! The market is about to plummet! Get out while you can!" The latter group subscribes to the "sell in May and go away" adage, which suggests that a portfolio will have a higher return by avoiding the stock market between May and November than if it was invested for the entire calendar year.
So let's review how "sell in May and go away" has performed over the past 15 years.
Compare the performance of two hypothetical investors. Investor A buys the Standard & Poor's 500 index at the beginning of the year, holds on to it during the entire year and then sells everything at the end of the year. Investor B buys the S&P 500 at the beginning of the year, sells his or her entire portfolio on the last day of May, buys again in November and then sells again at the end of the year. In other words, Investor B is only invested for seven out of twelve months. Any guess who wins?
After calculating the returns over fifteen years, from 1998 to 2012, Investor A's overall performance would have been a 7.2 loss, while Investor B's overall performance would have been a 33.6 percent gain. That's a difference of a whopping 40.8 percent, or 2.3 percent on an annualized basis! Have we found the secret to beating the market? Seems pretty obvious that everyone should adopt the sell in May strategy, right? Not so fast. Let's dig a little deeper before jumping to any conclusions.
Not surprising is the fact that Investor B would have beaten Investor A in certain years, such as during the Great Recession of 2008 or during 2001-2002 after the internet bubble burst. The S&P 500 was in a free-fall for nearly the entire year, so an investor would have been rewarded for being out of the market for virtually any number of months. However, the opposite would have been true in 2003 and 2009; pulling your money out at any point would have been a drag on performance since the S&P 500 bottomed in March and then sharply rebounded. What is surprising to me, after doing the calculations, is how there wouldn't have been much of a difference between the two strategies in 1998, 2000 and 2010, despite the volatility that occurred during those years, with a difference of just 0.5 percent, 0.9 percent, and 0.8 percent, respectively.
There's nothing wrong with using technical analysis to decide when to enter or exit the stock market, but you can't use fifteen data points and draw a statistically valid conclusion. There also isn't a consensus as to why selling in May should earn a greater rate of return than leaving your portfolio untouched for the year. Without an explanation, "sell in May" is a self-fulfilling prophecy at best, which shouldn't leave anyone feeling good about following the strategy. The bottom line is that unless your full-time job is to follow the stock market on a daily basis, long-term investors should avoid this and other market-timing strategies. You're better off leaving your portfolio fully invested--have no fear, enjoy the year.
Spencer D. Rand is an Asset Management Associate at Monument Wealth Management, a Registered Investment Advisor located just outside Washington, DC in Alexandria, Va. Spencer is not a registered investment advisor representative. Follow Spencer and the rest of Monument Wealth Management on their blog which can be found on their website, on Twitter @MonumentWealth, and on the Monument Wealth Management Facebook page.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendation for individual. To determine which investment is appropriate please consult your financial advisor prior to investing. All performance referenced is historical and is not guarantee of future results. All indices are unmanaged and may not be invested into directly.