Stock Market Sell Off: Sell In May, Or Stay & Play?

At the risk of adding yet one more analysis to a voluminous collection on whether the coming of May usually signals a stock market sell off, it seemed the right time (late April) to think about the old stock market adage: “sell in May and go away”. For those of you who are not familiar with it, the implication is that as an investor, you are better off if you cash out of the stock market on May 1^st and then reinvest on November 1^st than you would be by simply holding your positions year round. Various explanations for this pattern have been proposed including a post tax refund consumption slow down, summer vacations, and mutual fund selling for the October fiscal year-end.

Stock Market History and the Likelihood of a Sell Off Starting in May

To conduct this analysis, I looked at total monthly returns to the S&P 500 starting with April, 1970 and ending with March, 2015. Total returns include dividend payments. So, we have 540 months, or 45 years of data. What can we learn?

Looking at the entire period, if we had followed a simple buy and hold investment strategy, we would have earned an average annual compound return of 10.55%. An investment of $10,000 on April 1, 1970 would have grown to $910,513 by the end of last month. Supposing that instead of being a buy and hold investor, we had actively sold in May (per the adage) and then recommitted to the stock market on each November 1st? It turns out that the simple strategy of buy and hold wins. And wins by a lot! Following the adage produces an average annual compound return of just 8.08%. That almost 2.5% annual slippage means a lot in dollar terms. The hypothetical $10,000 investment 45+ years ago would have grown to only $329,999 this past March 31st. That’s just 36% of what the buy and hold investor ended up with!

Now, I have to admit to two things. First, I assumed that an investor following the adage put his/her money under the mattress when out of the stock market, thereby forgoing the opportunity to earn any interest. However, I also did not assess that investor any transaction costs, which would to some degree offset the loss of interest income. Ignoring transaction costs, an “adage investor” would need to earn the equivalent of an annual 4.6% on his/her “mattress cash” to break even versus the buy and hold strategy.

Perhaps you’re thinking that the 1970’s is ancient history and that markets move differently now due to the advent of virtually non-stop data availability and trading opportunities. To answer that, I looked at just the last 20 years of data. The results for this more recent period are remarkably similar to the longer history. The buy and hold strategy beat the adage tactic by an average of 1.9% points annually.

Now, does this mean that you’re always better off holding on to your stocks from late May to October? Looking at the data, we find that the answer is a resounding “NO”. Investors suffered some heavy losses through a number of those periods. For instance, and most recently, those six months produced the worst loss of almost 30% in 2008. From 2000 to 2002, there were back to back to back losses of 1.0%, 14.6%, and 17.0%, respectively. On the other hand there have been solid gains, too, with the best increase of 23.1% coming in 1980. Overall, gains were registered in 32 of the 45 years studied.

The conclusion is clear: history does not support exiting the stock market in May for a November return based solely on the calendar. There are many things that might indicate when to sell stocks, but don’t rely on May Day.

Post from: Insights