Landmines on the “Sell in May” Road

Sunday, May 10, 2015

by Sheila & Rich Jamison    

In its simplicity, “Sell in May and go away” ignores both dispersion and volatility. Dispersion speaks to the difference in performance of various market segments; e.g., how much does one sector outperform another. Volatility affects reading the signals of true market changes as opposed to fits and spurts among the daily, weekly and even monthly ups and downs. Reaping the best seasonal performance requires evaluating both.

Strong and Weak Periods

Market Seasonality (explored here) is the term applied to what have been annual strong and weak periods in the market historically. However, that looks at the market as a whole. It can lead to some gross inaccuracies on a more ‘local’ basis.

Many people still think of climate change as it was originally described, “global warming.” And measurement over the last few decades has shown an increase in the average temperature of the whole world. However, for those of us who went through the polar vortex, this average increase in global temperature may seem to have been the stuff of fiction. Various local spots were much colder than ‘normal’ – even if they were more than balanced by other spots that were much warmer. Wouldn’t it have been nice to have spent the minus double digit days at the beach somewhere warm and sunny?


Among asset classes, there are spots that are in the deep freeze and others that are warm and sunny. Dispersion refers to the difference between them. Over the last few winters, we saw days with Watertown, NY at 20 degrees while Florida was in the 50s, we also saw them at -20 and 80, respectively. Analogous degrees of difference also occur with market segments. Sometimes all segments can be rather close in performance. Other times they are widely different (dispersed).

If you’re thinking ahead of us here, you’re probably thinking it would be good to be in the “warm and sunny” ones as much as possible. We’ve managed to get this far into our discussion without having mentioned either tactical allocation or sector rotation – but that’s what we’ve described.


You will remember our discussions of volatility (refreshers found here, here and here). A key aspect of being in the warm and sunny spots is not getting on a plane too soon because of a bad spell of weather that passes quickly. You could be flying into worse weather.

It’s human nature to put a greater degree of emphasis on more recent results. This happens across the human experience. Hope for winning the seasonal championship jumps when your team has a sudden short streak of wins no matter how dismal their prior performance. Sometimes, those short streaks are just that … short streaks. Your team returns to its dismal self quickly. And at other times, those short streaks turn into long ones … streaks that lead to them become the year’s champions.

It is similar in the stock market. When XYZ stock rallied on good earnings or ABC sector posts a strong month of performance, it is human nature to want to jump on that train in order not to be left at the station. Our advice here is, “Resist that urge.”

April was a relatively “quiet” month for the market, as defined by the S&P 500 (SPX), which was up 0.85%. However, in many ways, it felt worse, and is due, in large part, to the sectors that led the charge in April. Many of the strong (by relative strength, or “RS”) sectors pulled back or consolidated. Meanwhile the laggard sectors were among the best performing in April. The top 5 performing sectors in April (Oil Service, Precious Metals, Oil, Steel, and Metals Non Ferrous) are also the 5 worst performing sectors over the past 12 months. In other words, April was a prime example of an “RS laggard” rally.

Additionally, some of the sectors that have been the best performing sectors over the past 12 months were the worst performing in April. Glaringly, Biotechnology, the best performing sector over the past 12 months with a return of + 51.62%, was the third worst performing sector in April with a return of -3.78%.

When Do We Change Horses?

Poor performance of strong RS sectors, like biotechnology, in April has caused angst about the market – has the move in biotech has come to an end? It brings us face to face with whether this is a short term streak or it will lead to the season’s championship.

John Lewis (Relative Strength and Portfolio Management, Dorsey Wright, 2012) studied “lookback” periods to evaluate the time periods at which RS produced the highest annual results.* He found relative strength is an intermediate-term factor.

He found it least effective when only the most recent month’s results are used to make judgements. This led to lower annual returns than any other period he studied. Further, a 1-month lookback led to annual results that trailed the S&P 500 Index (SPX) 90% of the time.

He found that 3-month to 12-month lookbacks all led to average annual returns that outperformed SPX … 100% of the time! Performance peaked at the 6-month point. Longer lookbacks trailed off but still averaged higher performance than SPX, though from 85% down to 53% as the lookback period lengthened.

In short, relative strength is a viable strategy over a 3-to 12-month formation period. They all exhibit a significant ability to outperform over time. At shorter and longer formation periods there is significant reversion to the mean, and performance trails off. Bottom line, portfolios don’t perform as well when they are built using too short or too long a lookback window.

Two Morals

  • Stay with strong positions until we have sufficient evidence to abandon them
  • The greater the dispersion among the areas, the more our returns can exceed the average.

But we also need to be careful not to select the new strong areas too quickly. As Sheila says during her hours in the yard when she sees a new green shoot, I’ve got to wait long enough to be sure what I’m pulling are weeds and what I’m letting grow are flowers. The yard won’t look very good if I do it the other way around.

Where Are We Today?

Our market indicators enter this new seasonally weak period in a generally positive light with our trend indicators remaining positive for the equity market and, notwithstanding some positive stirrings in other classes, US equities still in the #1 spot among major asset classes.


* Lewis analyzed the market from 12/31/1995 to 12/31/2011, using various lookback periods (1, 3, 6, 12 and 18 months and 2, 3 and 5 years) to measure the impact on annual performance of making allocation changes based on each lookback period. (Note: this refers to the lookback window used for calculating RS, not the performance of the portfolio, over that given time period.)

Daily Market and Equity Report. Staff. Dorseywright.com. May 8, 2015.

The data above were taken from sources deemed reliable. However no guarantee can be made as to their completeness and accuracy.
Interpretations of the data, views and/or opinions expressed are those of the Jamison Financial Group based on market and economic conditions as of the date of publication and are subject to change. They do not necessarily reflect the opinions of any other individual, group or organization.
Nothing in the above is meant to be, nor should it be construed as, investment advice or recommendations to buy or sell any security. Individual securities whenever mentioned are for illustrative purposes only and may not be relied upon as investment advice.
All indices are unmanaged and are not illustrative of any particular investment. A direct investment cannot be made in any index.
The Dow Jones Industrial Average is a price-weighted index of 30 actively traded blue-chip stocks.
The NASDAQ Composite is a market-weighted index of all the over-the-counter common stocks traded on the NASDAQ system.
The S&P 500® is a market-capitalization-weighted index of common stocks.
Tax and/or legal information contained herein is general in nature and for informational purposes only. It should not be relied upon as advice. Consult your tax professional or attorney regarding your unique situation.
Past performance is no guarantee of future results.

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