Seasonal patterns in shares – why do investors “Sell in May and go away”?

“Sell in May and go away”. It’s an old piece of Wall Street folklore that invariably does the rounds each year as we approach the summer months. It suggests that traders should sell their equities in May, and come back around late October, and traces its history back to the days when the City of London stockbrokers left their desks to enjoy the summer season, culminating in the St. Leger horse race festival in September. 

Here, conventional wisdom would suggest that stock markets are sluggish during the summer, and tend to gain again throughout the winter – but is this still the case?

Image Source: Pixabay

‘Tis the season

A wealth of data, collected over many, many years would suggest so. From 1950 to around 2013, the Dow Jones Industrial Average has had an average return of only 0.3% during the May to October period – this is compared to average gains of 7.5% throughout November to April. Although many investors might be keen to dismiss the old adage as nothing more than an old wives’ tale, the evidence builds a strong case to suggest it is more than just an empty phrase.

While there will of course be some exceptions to the rule, the truth is, human beings are predictable – when faced with investment decisions year-on-year, we tend to behave habitually. The key here is that investor demand for shares will vary throughout the year, relative to the supply. A number of recurring events can contribute to this, as well as changes in market sentiment. So, what patterns should investors be monitoring throughout the year?

To begin with, it’s important to note that the turn of the seasons can literally affect the price of commodities. Seasonal weather patterns – such as droughts and blizzards, for example – and harvest periods can cause valuations to peak and trough. Looking to the past, the value of natural gases tends to dip from around mid-June (during the warmer summer months) as there is less of a demand of heating in the Northern hemisphere. 

Likewise, investor and trader sentiment is naturally very changeable throughout the year. Whether optimism over the approaching new year, holiday spending, or traders looking forward to a much-needed holiday, the so-called “Santa rally”, which is a phenomenon that occurs each December, often leads to a period of strong gains in the equity market. On the other hand, researchers have noted a “SAD effect”, linking some seasonal preferences to seasonal affective disorder, with traders feeling less optimistic after a cold, dark winter.

Of course, there are some exceptions to the “sell in May and go away” adage. For instance, pharmaceutical and biotech stocks typically perform well during the summer months due to the publication of clinical studies throughout July and August – and particularly this year, we can expect to see increased interest in this sector as companies rush to find new and novel therapies to treat COVID-19. Certainly, this is an area worth watching. 

Ultimately, investors and traders must pay due attention to seasonal patterns.