Sell in May and Go Away?in Trusted Advice
After the sharp sell off the markets experienced at the start of the year, it is no wonder that investors may be more receptive to the old Wall Street adage of 'Sell in May and go away.' What's not to like about taking one's profits and enjoying some time off from the volatility of the markets? Maybe on a nice sunny beach with a cold adult beverage. But I digress. While it sounds appealing, is it an actual strategy, or just another catchy turn of phrase? And if it is a strategy what do you gain from it? Thankfully people with fancy initials after their names and a lot of time on their hands have done studies of the matter.
While there is no defined time period of exactly when to sell and when to get back in (the other half of the equation), many academics have studied market returns for the six months of May through October and compared it to the period of November through April. Surprisingly, in a time of almost instant and ubiquitous information that should enable efficient markets, these studies show that the May through October period underperforms the November through April period in a variety of financial markets, not just in the United States but around the world. So it's true you say, case closed, we can all sell now and go off and enjoy our summers in the Hamptons, the South of France, the Amalfi Coast or elsewhere.
Not so fast. While the markets did underperform on average, that does not mean they went down. They actually went up on average, just not as much as in the 'winter months'. So by selling out, investors would leave money on the table. They would also have to pay friction costs such as commissions for trading out and then back into the markets and taxes on their gains (assuming the investments are not in a tax sheltered account). Also, these are average returns over long time frames. Many years, markets had strong moves over those months. Last year, the S&P 500 was up over 7% from May through November and in 2013, it was up almost 10%. Tough to make ones retirement goals when you are missing out on returns like those.
A big part of the issue is that the average return for the May to November period was skewed lower by a few outlier periods of dramatically lower returns, such as 1929, 1987, 2001, 2002 and 2008. These large and dramatic down turns in the market tend to get seared in our personal and collective memory. Since humans tend to feel the pain of losses more than we enjoy the pleasure of gains (loss aversion), those declines tend to stay with investors and affect their actions more than the 7% return of last May through November. While this may argue for caution and possibly a heightened awareness of developing risks, it does not argue for getting out of the markets completely.
So in the end, what should one do? While on average, the May to November period is not as kind to ones portfolio as the other six months of the year, it has produced a positive return in the US stock market. And that is before taking into account transaction charges and taxes. So while tempting as it may be to sell out and hit the beach, there are many reasons to stay invested according to ones long term plan, while keeping an eye out for possible risks. It is times like this that an experienced investment advisor with an extensive knowledge of not only the markets, but also of your objectives can help keep your portfolio moving towards your goals.