Here's What to Buy If You Don't 'Sell in May'

Jim Stack and Bernie Schaeffer are two of the investment industry's most respected experts; both have each been contributors to MoneyShow.com for over 35 years. Here, these seasoned advisors look at summer trading patterns, the Sell in May adage and the best-performing sector ETFs between Memorial Day and Labor Day. James Stack, InvesTech Research With the impressive rally in 2019, investors are again viewing the stock market through rose-colored glasses, as their anguish from last December's deep (and swift!) correction fades from recent memory. Although many have enjoyed this year's gains, the market really hasn't gone anywhere for the past year and a half. The S&P 500 Index and Dow Jones Industrial Average were both trading below levels hit in January of last year. So this is either one of the longer market consolidations in memory... or one of the more important developing tops in Wall Street history. At almost 10 years of age, this is the second longest U.S. economic expansion. Long expansions create high debt levels and overheated (overvalued) stock markets. And history has shown that bear markets that follow larger bull markets can be particularly nasty. Almost every bear market of the past 86 years has taken back or repossessed close to one-half or more of the previous bull market's gain (the only exception was in 1956). Based on today's bull market that started in March 2009 at DJIA 6547, that could easily mean losses of around 40% or more in the next downturn. This is not a low-risk market environment today. The road ahead may be rocky, especially given the time of year we are entering. The widely known adage, Sell in May and Go Away, is based on past market trends and is one of the most popular recurring themes on Wall Street. Historically, the winter period from November 1 through April 30 is the prime time to be invested in stocks. Since 1960, this six-month period has seen an average return of 7.8% in the S&P 500. Conversely, the summer doldrums often weigh on the stock market from May 1 through October 31. Over the same 59 years, the average return for the May through October period is only 2%. Arguments abound about the value of advice provided by the Sell in May adage, and this debate almost always finds its way into the media. The present bull market has lasted more than 10 years and risen over 335%, and the stellar year-to-date gain has further fueled a positive market outlook as the norm. That could explain why media pundits are not giving much credence to the annual Sell in May debate this time around. Yet looking back, the evidence of a strong seasonal shift in the majority of years is quite compelling. Shown below is a graph in which two investors both start in 1960 with a $10,000 nest egg and invest during opposing seasons. Investor A buys an S&P 500 index fund on November 1 and moves to cash on April 30, remaining in cash through the summer. Investor B does the opposite, investing in the market only from May 1 through October 31. The outcomes couldn't be more different! Investor B's nest egg would have slightly more than tripled by now, ending with $32,789. Meanwhile, Investor A's $10,000 would have compounded to over $827,000. Of course, the market doesn't always ratchet down from high gear in early May, and winters aren't always winners, while summers aren't always losers. Practically speaking, it wouldn't be prudent to sell all stock holdings in May and move to cash. There are adjustments, however, that can be made to help capture remaining upside in the stock market and protect your portfolio. During the summer period (May-Oct), the market often takes on a more defensive tone as the cyclical sectors move to the bottom of the list (red arrows) and the winter laggards take the lead (green arrows). Health Care and Consumer Staples have been the most resilient sectors in the summer months with average returns exceeding 5%, beating the market approximately 60% of the time. Likewise, the Technology sector also does well (highest batting average), as industry trends have moved to more stable cash flows based on recurring revenues. Conversely, Industrials and Materials are consistently weak and have the lowest batting averages, leading the summer market only 17% and 35% of the time, respectively. In sum, one should never try to squeeze the last gains out of a bull market. And it's never fun to ride through the first stages of a severe bear market in an over-invested position that creates losses that are intolerable. The sharp selloff in December was a mere taste of what the next bear market likely has in store for buy-and-hold investors. A little housekeeping now could prove beneficial over the next several months. The next bear market is lurking out there somewhere in the darkness, and we want to be among the first to see definitive warning signs. Patience is always a virtue to a seasoned investor, but when navigating a mature bull market it becomes an absolute necessity. Bernie Schaeffer, Schaeffer's Investment Research Volatility seems to have returned to the stock market just in time for the warmer months, thanks in part to the seemingly perpetual uncertainty surrounding major fundamental drivers like U.S.-China trade, Brexit, and the Fed's future policy path. But, using summer seasonality as our starting point, we may have uncovered a sector that's set to surprise to the upside in the months ahead. In a study by Schaeffer's Senior Quantitative Analyst Rocky White ran the numbers to determine which sector-based equity exchange-traded funds (ETFs) tend to fare the best over the stretch of time from Memorial Day up until Labor Day. The results -- sorted by the percentage of positive returns, and then by average return -- are displayed in the table below. The SPDR S&P Biotech ETF boasts the biggest average summertime return over the last decade, up 7.46% with 80% positive returns. The biotech tracker is down about 11% on a year-over-year basis, but as recently as early April, XBI's 30% year-to-date advance roughly doubled that of the broader SPDR S&P 500 ETF Trust . Since then, XBI has pulled back quite a bit, and is now matching SPY with an approximately 13% gain for 2019. But what's troubling about XBI's chart is the fact that it's trading below its bearishly crossed 50-day and 200-day moving averages, with the latter trendline acting as resistance since mid-April. Short interest on the fund is at its highest level since October 2015, which could potentially contribute to a high-velocity rally -- but until those formidable moving average hurdles are taken out, it's hard to consider XBI as a bullish summer play. The FANG-following First Trust Dow Jones Internet Index Fund typically gains just shy of 6% between the two summer holidays, with 80% of returns positive. And FDN entered Memorial Day weekend as a leader, having tacked on upwards of 19% over the last six months and on a year-to-date basis. However, that round 20% year-to-date return level could become a sticking point, and FDN is lately threatening to punch below support at its 80-day moving average. That, coupled with the fact that FDN shares sagged about 5% over the past month as investors plowed net inflows of $140.03 million into the fund, keeps the ETF from piquing our contrarian interest. The safe haven iShares 20+ Year Treasury Bond ETF boasts 90% positive returns from Memorial Day to Labor Day over the past decade, though its average return of 3.81% for the period doesn't quite compare with those of XBI and FDN. That modest bullish move aligns with TLT's usual tendency toward slow and steady share price moves, as seen on the accompanying chart. Currently, TLT is trading near an annual high, and hovering right around an 11% year-over-year gain. Given this ETF's pattern of outperforming in risk-off scenarios when equities are struggling, traders who anticipate a prolonged period of high volatility for stocks may want to consider betting on a repeat of TLT's bullish summer seasonality in 2019. That said, perhaps the most compelling pick here is the one that's managed a flawless summer track record over the past 10 years, with 100% positive returns in the late May-early September window. The Financial Select Sector SPDR Fund ends the period up 3.29%, on average -- the smallest of the group we've discussed here -- but there are a few factors that could contribute to a bigger-than-usual bounce for bank stocks this time around. Technically speaking, XLF is testing its footing above support at its 200-day moving average, which previously served as resistance during rally attempts in February, March, and early April. And since the start of April, the big bank fund has held its footing above the level corresponding with a 10% year-to-date gain. Massive put activity on XLF suggests one of two things -- either shareholders of large-cap bank stocks are anxious, or traders are outright speculating on a drop for the fund. Either way, the stats are heavily skewed; currently, Schaeffer's put/call open interest ratio (SOIR) for XLF is 2.25, in the 85th annual percentile. Likewise, during the past 10 days, traders on the International Securities Exchange, Chicago Board Options Exchange (CBOE), and NASDAQ OMX PHLX (PHLX) have bought to open 6.55 puts for every call on XLF -- a ratio that registers in the 96th percentile of its annual range. Even if we ascribe to this whopping appetite for XLF puts the tamest possible sentiment motive, we can at least surmise that finance stock longs are far from unhedged, and thus relatively unlikely to panic sell in the event of sector-unfriendly developments. But having said that, it's possible that XLF could receive a boost if traders are forced to readjust their Fed expectations. Atlanta Fed President Raphael Bostic, who has generally skewed dovish in the current tightening cycle, told CNBC a few days ago that The market is ahead of where I am in terms of pricing in a September rate cut. If forthcoming statements from the central bank fail to bolster rate-cut hopes, revised expectations for a sustained period of higher rates could draw more interest to big-cap lenders in the months leading up to Labor Day.

Here's What to Buy If You Don't 'Sell in May'

A look at summer trading patterns, the 'Sell in May' adage and the best-performing sector ETFs between Memorial Day and Labor Day.

Columnist Conversation

AAP Podcast: This Company Is Not Going 'Solo'

This Weekend on Real Money

AAP Podcast: A Tongue -- and a Market -- Twister: 'Get a Debt Deal Done'

COLUMNIST TWEETS

Please Join or Log In to manage and receive alerts.