Sell in May, then go away? The truth behind seasonal stock market theories
Sell in May, then go away? The truth behind seasonal stock market theories
Written by Katie Gomez
2023 has flown by so far, and if we don’t pay attention, we may miss out on upcoming opportunities. Although there is no right or wrong time to focus on your trades, springtime is infamous for being the peak season for trading. This known seasonal tendency proves that the stock market performs best in the first six months (January to May) and underperforms in the following months of that year. In this article, I will dissect this seasonal trading theory and see if it has any proven value or is just another pattern-tracking theory lacking substantial evidence.
“Sell in May, then go away” is a well-known adage by most members of the stock trading community, but is it more than just a catchy adage? For years, this saying has influenced traders to give more attention to their trades in the early stages of winter and spring, but why is that? My first thought was that it might just be an example of herd mentality, assuming that since everyone repeats it, it must be true. But after doing some research, there might be more to the story.
Whether traders believe it or not is unquestionable, given the percentage of actions seen in the former half of the year compared to the latter. Still, belief alone does not validate this theory. For example, the S&P index saw that November to April demonstrated an overall leading average, compared to the period between May and October, showing a mere 2% average gain. Additionally, the S&P 500 typically generates positive returns of roughly 67% from May to October, while November to April rises to 77% (CFI, 2023).
What do these numbers prove? First, it appears as though May seems to act as a cutoff point for traders as the winter/spring period comes to an end. This trend could result from herd mentality coercing traders to sell their positions before the start of summer and hibernate until late autumn to follow the movements of others. Similar to how birds flock together and fly south for the winter, traders tend to follow the same trends selling their positions in springtime.
Where did “Sell in May and go away” come from?
The origins of this phrase date back to England in 1945, possibly even sooner. At the time, the businessmen in London’s financial district curated the original saying, “Sell in May and go away, come back on Ledger’s Day” (Ledger’s Day referred to a well-known English horse race established in 1776). That said, it’s possible this phrase had less to do with financial prospects in later months but rather to get your work done early, so one could relax and enjoy the summer months, spend their profits, and take a well-deserved hiatus, set to return just in time to earn betting money for the horse race (CFI Team, 2023). Could traders simply be continuing this practice set almost a century ago because it’s become familiar? Well, yes and no.
While herd mentality and continuation of familiar tradition certainly play a role in this axiom, there is also some logic behind it. These select months center around the holiday season (late December to January), which is critical in this stock market surge. For instance, these winter seasons evoke heightened activity in the stock market known as the Santa Claus Rally.
Several factors inspire this winter-time rally: investors eager to settle their books into the new year, increased Christmas shopping, holiday-induced cheer (higher morale), and the distribution of company bonus checks.
Given that these things are annual occurrences, one could argue that the Santa Claus Rally is another prime example of a self-fulfilling prophecy; once it becomes well-known, people invest accordingly, unconsciously proving it true. As a result, the following months (February and March) tend to wind down and remain more consistent until the spring surge in April hits, as traders wait eagerly to sell in May. In contrast, the period from May to October tends to be less optimistic, with less time spent on stocks and more time spent on summer vacation (Bowman, 2023).
However, this theory is not exempt from contingencies. Other factors besides the time of year play into return rates, so it would be foolish to mistake correlation for causation here and base your trading decisions solely on this rule. Every rule has exceptions and conditions that affect results; in this case, many factors could cause the market to change course in fall/winter.
For example, in 2020, November to April showed the poorest returns in years due to the heightened emotions and panic resulting from the COVID-19 pandemic. Additionally, election months can prove unpredictable for the market as positions of power are changing. Therefore, it is vital to remember that market sentiment can vary due to various socio-economic conditions impacting stock market volatility. Never assume the stock market to conform to any expectations, no matter how old or well-known they are.
Overall, this theory is relatively safe to follow if you are not a serial or long-term investor. However, in terms of long-term investing, a better adage to keep in mind would be “time in the market beats timing in the market.” This saying was popularized due to some of the most significant single-day stock price gains following the largest declines (Thune, 2023).
In conclusion, just because something happened in the past does not mean it will always continue to happen going forward, so proceed with caution. I first thought the reasons behind this theory to be purely psychological or belief-based. However, given the research, this rule has at least some logic behind it and has proved consistent over time. That said, it would be wise not to assume that “Sell in May, then go away” is a fixed rule to follow, but rather see it as an insightful trend to keep in mind along the way.
References
https://corporatefinanceinstitute.com/resources/capital-markets/sell-in-may-and-go-away/#:~:text=Sell%20in%20May%20and%20Go%20Away%20refers%20to%20a%20well,period%20between%20May%20and%20October.
https://seekingalpha.com/article/4507304-sell-in-may-and-go-away-meaning