Sell in May and go away?
27 May, 2015
The old saying 'sell in May and go away' invariably does the rounds this time of year. Where does it come from?
The 'Sell in May and go away' saying is probably one of the best known and most often cited so-called market wisdoms around. The phrase originated in the UK and references to it have been found as far back as 1694, so in that respect it is pretty enduring.
In the UK the complete saying is 'sell in May and go away but buy back on St Leger's Day' — St Leger's Day refers to the date of a classic horse race that is run at Doncaster in the UK every September. The Americans call it 'Halloween indicator', because you want to be in the stock market for the 6 months following Halloween.
But, either way it generally says you are better off selling up your stocks and going fishing over the Northern Hemisphere summer months, rather than staying invested in the stock market.
So is it just a myth or is there some substance behind the saying?
Well, believe it or not, there's over 300 years of data that generally supports the 'sell in May' strategy, with returns between November and April (that's the Northern Hemisphere winter) outperforming those between May to October, by about 3-4% per annum over this extended period.
And it doesn't appear to be just restricted to just Northern Hemisphere stock exchanges either, with many Southern Hemisphere countries also exhibiting a similar trend. Although funnily enough, New Zealand isn't one of them.
The data for us doesn't show any clear trend of seasonal outperformance at all. But as you'd probably expect the data is strongest for European stock exchanges — some may argue this is because the Europeans love their holidays, but it also works in the US and Japan as well.
Surely investors will eventually get wise to it and the effect will vanish?
That's actually a really good point and market anomalies do tend to disappear once they are well known. The most obvious example of this is the so-called 'January effect', which was prominent a few years ago but has now largely disappeared.
But as I said, the 'sell in May' phenomena has been around for many years and data suggests it still seems to work, although obviously there is no guarantee it will work in any particular year. The well-known business paper the Financial Times first talked about selling in May way back in 1935 and some argue that rather than disappearing the effect seems to have intensified over the last 20 odd years.
So what are the explanations for this?
There have been many explanations offered over the years — some are plausible, but none really provide a satisfying solution to this puzzle.
Probably the most commonly given reason is that money managers in the Northern Hemisphere take their summer holidays and this leads to lower volumes of trades and less buying pressure — but that really doesn't explain the difference in stock returns between the Northern and Southern Hemisphere.
Another explanation is that economic activity is stronger in the winter and investors react to this positive data in the expectation of stronger company earnings.
And some even point to the notion of an optimism cycle, as investors become overly optimistic as they look forward to the New Year and then several months into the New Year reality dawns. There is evidence to show that analysts can be optimistic at the start of the year only to revise down forecasts as the year progresses.
There is also the flow of money link, with equity markets so a seasonally weak period in equity prices can impact on money flows, so the cycle becomes self-fulfilling. But really none of these reasons provide a satisfactory explanation as to why a market strategy of selling in May has worked nearly 2/3rds of the time in the last 300 odd years.
So should we be selling now?
There is evidence that supports this strategy, but I'm not sure I would advocate a 'sell in May and go away' investment strategy. Firstly strategies involving some element of trying to time the market can be fraught with risk — especially if you don't have a plan B if the strategy isn't working. Some may argue, well it doesn't matter why it works as long as it does work, but I'd suggest it is easier sticking to a strategy if you understand the rationale behind it.
Also, one has to take account of transaction costs associated with buying and selling stocks and potential dividends foregone when you don't own a stock. So, while there are many uncertainties currently facing the global equity markets, successful investing is really a long term game and perhaps there's another market saying that is probably more pertinent 'time in the market is more important than timing the market'.