Sell in May & Go Away: Fact or Fiction?

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One of the most well-known trading strategies in financial markets is  ‘sell in May and go away’. But does the strategy still work after all these years? In this guide and in light of the interest rate increases and geopolitical tensions we look at whether this is still a correct strategy.

Origins

‘Sell in May,’ advised one old market sage, “and go away until the St Ledger’s Day.” This advice is believed to originate from the old days where wealthy speculators and investors leave the City during the summer and only return after the St Leger’s Stakes horse race sometime in the autumn. Fair enough, in the days when Bloomberg, Reuters or the Internet did not exist, traders wanted to wrap up their positions and portfolios to avoid nasty surprises when they returned from their holidays.

Modern-Day Relevance

But as technology progresses, this tactic has, surprisingly, remained durable. In 2002, a comprehensive study made by Sven Bouman and Ben Jacobsen concluded that “the ‘Sell in May’ effect is present in 36 of the 37 countries in our sample. The effect tends to be particularly strong and highly significant in European countries, and also proves to be robust over time.” Normally, once a strategy is published profits from it tend to be arbitraged away because astute funds – aided by leverage – would jump on it. Not the sell-in-May tactic though. In 2013, a trio of researchers further remarked, “we found that the sell-in-May effect not only persists but also maintains the same economic magnitude.” So persistent is this strategy that commentaries about it are wheeled out annually at the start of summer.

US Markets

If I take data from major indices like the DowS&P 500 and FTSE 100, the results are also quite supportive of the ‘sell-in-May’ tactic. For example, below I compare DJI’s returns from the six months from May to October with the November-to-April period. For simplistic purposes, I used the closing price of first trading session of May/November as a starting point. A quick glance tells us that the return difference is noticeable. The period that includes the turn of the year and December periods have average returns that are nearly double that of the summer-autumn months.

Sell in May - Dow Jones

Source: Author’s calculations

UK Markets

Here in the UK, the effect is not only similar, but more pronounced. Using the FTSE 100 Index as the market proxy, the difference in avoiding the summer months is glaring.

Sell in May - FTSE

Source: Author’s calculations

The average returns from November-April period is a multiple of the other six-month period. That is, by exiting the market and do nothing for half the year helps tremendously in improving long-term returns. Any intriguing question is why.

There are two reasons I can think of. The first is that after a market rally (particularly during Christmas and January), investors can’t help but book some profits in spring. Then, the summer holidays further distract many players who only return in September. Few traders want to put on large positions when they are away. The second reason is that the sell-in-May strategy avoids the particularly turbulent September (and October). For whatever reasons, these two months are especially volatile. Downside risks increase. An old example is Lehman Brothers’ implosion on September 2008.

Conclusion

In view of these interesting statistics, should we, then, pack up now, sell in May and go for a well-deserved holiday for the next five months?

Well, I suppose this is not a bad thing to do (a five-month holiday, I mean). Portfoliowise, however, some nuances must be incorporated. For one, not every calendar effect behaves in the same way year after year. This year may be different, especially with looming elections in the US and UK. Markets could continue rising into the summer and then break down on political results. A reverse of the sell-in-May effect. Secondly, it would be foolish to sell long-term holdings just to increase a few basis points (if any) of returns.

The Sell in May strategy is well recognised and robust and as a final remark, despite its wide publicity, the sell-in-May effect is a real and persistent calendar phenomenon in the stock market. However how exploitable this pattern is remains debatable. On paper, the tactic seems robust. In reality, who knows how much you can make out of this. In finance, execution matters. Therefore be careful incorporating this effect in to your portfolio management unless you anticipate that the rewards to outweigh the risk.

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