It's axiomatic on Wall Street that summer is a bummer. Stocks tend to do well in the winter and spring, and then go cold when the weather gets hot.
This year, gains heading into summer are way ahead of average and there are signs that stock prices may have gotten ahead of themselves. Investors, spooked by European debt troubles, took all that to heart in the opening days of May and began selling with a fury.
A chief acolyte of the sell-in-May school is Jeff Hirsch, editor of the Stock Trader's Almanac. He has analyzed data from 1950 through 2008 and determined the following: In the years since then, the Dow Jones Industrial Average gained an average 7.3 percent for the November-through-April periods. Total returns during the May-through-October periods were barely positive, at 0.1 percent.
Hirsch has often advised stock market investors to stay away for the hot summer months and come back in the fall, and he's even more convinced of that this year. By the end of April, the Dow was up 13.3 percent from the end of October, and up almost 70 percent from its March 2009 lows, and many analysts were suggesting that stocks were overvalued. The market has begun to run out of fundamental fuel, while the technical picture has provided a quintessential sell signal, he says. Hirsch forecasts a 20-30 percent decline in the next two to three quarters and advises investors to move money into bond funds and bear market exchange traded funds.
Perhaps sentiments like that are part of what drove the Tuesday sell-off this week. But the question for investors remains: Should you sell your stock market holdings and stay away all summer? Here are some considerations.
-- Don't just sell everything and sit on the sidelines. Doing all or nothing with your stock portfolio is expensive (think trading costs and taxes) and risky. The biggest risk is that you'll forget or mis-time your re-entry and miss the next big rally.
-- Selling around the edges may make sense. If you've already had big profits in some stocks or mutual funds, you might want to take them now. If, like many investors, you still have capital losses that they are carrying forward from 2009, you can use them to offset those taxable gains. And many Washington watchers believe capital gains taxes will be higher in the future than they are now.
-- Balance is good. You may also want to do some selling if your portfolio has gotten askew after that hefty 70 percent March 2009-to-April 2010 bull market. Figure out what your original plan was, in terms of what percentage of your portfolio was meant to be in stocks. If, say, you intend to keep 65 percent of your money in stocks and fast gains have pushed that to 80 percent, you might sell some of your stocks.
-- Moving your stock money into bonds isn't necessarily such a safety play. Yields on safe bonds, such as Treasuries, have been very low because investors see this as a way to stash money securely. But if U.S. interest rates rise, either because of economic recovery or because the Federal deficit causes more borrowing needs, then the value of those bonds could fall. That could cause people who have invested in bond mutual funds to lose money.
-- You can protect yourself somewhat from the sell-in-May frenzy without selling. If you own individual stocks or exchange traded funds, you can set stop-loss orders with your broker. The shares would be sold if the prices fell to the level in your order. If you set your stop-loss orders to about 15 percent below current prices, you're likely to protect much of the last year's gains without being dragged all the way down if there's a prolonged sell off.
-- History doesn't always repeat itself. The sell-in-May axiom doesn't always hold true. In 2003, for example, the Dow was up 15.6 percent during the bad May-October period and up only 4.3 percent in the good months that followed. And investors have a way of trying to get ahead of those seasonal trading patterns. It's only May 5, but some of the early money has already done some serious spring selling. Whether it remains away for most of the summer remains to be seen.
(editing by Gunna Dickson)