'Sell in May' Still Isn't Sound Strategy

As if investors need any more reasons to be gloomy these days, another is sure to start hitting headlines in the coming days: The calendar’s turn from April to May. “Sell in May and go away,” the adage says, citing stocks’ history of lower average returns in late spring and summer than during autumn and winter. This year, we suspect the bear market will heighten the chatter, with “Sell in May” touted as a way to protect yourself against the proverbial “next shoe to drop.” In our view, it is impossible to know what markets will do this summer—short-term volatility is unpredictable—and whether March 23 is the bear market’s low is unknowable today. However, seasonality is a poor reason to cut equity exposure, especially now.

For one, summer months’ weakness has always been overstated. The most common version of “Sell in May” focuses on returns from April 30 through Halloween. Those are indeed weaker, on average, than returns in the other six months. Yet at 4.2% since good S&P 500 data begin in 1926, they aren’t negative.^[i] They just aren’t as positive as the 7.3% from Halloween through April 30.^[ii] Yes, returns in individual years vary greatly, and the dataset spans bear markets as well as bull markets. Accordingly, don’t be shocked if pundits trot out the dismal May – November returns from 2008 or 2000 – 2002 as evidence you should sell now. The trouble with that logic is that those bear markets, like the one that began in February, had fundamental causes that had nothing to do with the calendar. Their extended length and multiple downdrafts had nothing to do with the calendar, either. Coincidence isn’t causality.

At the most reductive level, selling when May arrives and sitting out the summer results in one of two scenarios: You miss the bear market’s second leg down, or you miss its V-shaped recovery. (Yes, there are other scenarios in between, such as a flattish spell or a second downdraft and quick recovery, but we are trying to keep things simple.) If this bear market has material, longer-lasting downside ahead, it will likely have a fundamental cause. Correctly identifying that before the crowd does—and, hence, before markets have an opportunity to factor it into pricing—is crucial in any decision to reduce equity exposure. Absent that, selling just because summer months in bear markets have been awful—or because summer returns are lower on average—has the potential to be a costly error.

To see why, consider the other what-if: that this summer features a strong market recovery. We aren’t making a short-term forecast or declaring the bear market over, but if you owned stocks through an awful March, the payoff for that decision is the strong returns that come early in a new bull market. Those gains compound throughout the rest of the ensuing bull market. Miss them, and your overall long-term return weakens, which could set you back from your goals.

Selling in May might have “worked” during the past two bear markets, but there are other related times when it would have been a grave error. In 2009, May arrived less than two months after the bear market’s low, amid widespread belief that the nascent recovery was built on sand—a lot like the commentary we see today. But a new bull market was indeed underway, and the S&P 500 gained 20.0% from April 30 – October 31.^[iii] Further back, the bear market that began in 1968 ended in late May 1970. During the Sell in May window, stocks rose 4.2%.^[iv] Three prior bear markets ended in June (1932, 1949 and 1962). In those years, Sell in May-era returns were 23.6%, 12.6% and -11.8%, respectively—a two out of three success rate.^[v] The kicker: The bear market that began in March 1937 ended on April 28, 1942. In other words, Sell in May hasn’t worked on a number of occasions when bear markets were already in progress.

So tune out the calendar and chatter about seasonality. Stocks care about a lot of things, but the month isn’t one of them. Whatever stocks do over the next six months and beyond will rest on investor sentiment and whether that is too dreary or hot relative to what is likely to happen over the foreseeable future. Focus your analysis there, look forward, and avoid the temptation to act on widely known information.