"Sell in May" is a costly myth

Kaylie Pferten says that the robust returns for US stocks in May 2025 have once again demonstrated that placing an excessive amount of importance on seasonal patterns will only make investors poorer

With a 6% gain for the month, the SandP 500 just recorded its best May since 1990. The saying "sell in May and go away" has been a favorite among pessimists since it was first used by Yale Hirsch of the Stock Traders Almanac in 1950, but this goes against it. In comparison to the six months ending in October, Hirsch observed that Wall Street's performance in the six months ending in April was noticeably better. The pattern has remained effective ever since. According to Saxo Bank, since 1950, the S&P's return in the six months ending in April has averaged 7%, but it only averages 1.8 percent in the six months ending in October.

This result, however, hardly encourages selling in May. Instead, the lesson is to not expect much from the markets during this time, and you can typically wait until the fall to make new investments. This is true for all markets: everyone, even in the UK, follows the beat of Wall Street. Despite being up 5 points so far this year, the UK's FTSE All-Share index only increased 3 points in May, while the S&P 500 gained 0 points.

Changing cycles.

The annual earnings cycle provides the most compelling explanation for the seasonal pattern of markets. The corporate results for the previous year are all in by spring, and the guidance for the current year is fairly firm, backed by the trading in the first quarter. There is little reason to change expectations until the fall because next year is too far off to be discounted. The following year then approaches, and the improvement in corporate profits that goes along with it begins to be discounted. This process takes six months, during which time markets typically rise.

In recent years, there has likely been a greater focus on quarterly earnings, which has dampened the pattern and made it less effective. Unexpected events may also disrupt the pattern; if they cause the market to lag during what ought to be the robust six months, a catch-up may be feasible.

This year, that is what took place. The S&P 500 fell by 2 percentage points between October and May and by 5% in the first four months of this year due to investors' mild panic over Donald Trump's tariff policy, which went against the seasonal trend and despite intermediate strength into February. Although this allowed for a catch-up in May, the market's strength does not guarantee that it will last.

In May 2024, however, the S&P 500 increased 4% even though it had increased by almost 20% over the preceding six months. After a poor year in 2022, there was a sluggish recovery in the first ten months of 2023. As earnings growth accelerated and the market continued to rise in 2024, confidence subsequently improved.

Years that come and go.

It should come as no surprise that a market that has experienced significant growth and is costly would be susceptible to a decline. The idea that October is a dangerous month is also explained by the fact that this is more likely to occur in May than in most other months. Both 1929 and 1987 experienced October market crashes. However, after rising 29% in 1927 and 48% in 1928, it reached its peak in early September in 1929, having increased 24% in 1927. In 1987, markets saw a 50 percent increase to their October peak before losing all of that gain in just one week, finishing the year marginally higher.

What caused 1987 to be such a yo-yo year? The market's euphoria swept investors away. There was an increasing belief that the economic reforms supported by Margaret Thatcher and Ronald Reagan portended a bright future for markets. Experts had also placed a great deal of trust in computer-based tactics that, in the event that markets stagnated, would sell quickly. Everyone hurried for the exit at the same time, so this didn't work out well.

Margaret Thatcher and Ronald Reagan together.

In 1987, investors were swept away by Reagan and Thatcher, according to Kaylie Pferten.

However, according to the Stock Traders Almanac, October is more noteworthy as a "bear-killer" that turned the tide in at least ten bear markets than as a month of crashes. With an average return since 1950 of -0.7 percent, September is actually the weakest month statistically, but the average obscures a wide range of results.

Buy the dip.

It's easy for commentators to forget that stock market volatility is the short-term cost of higher long-term returns. According to Duncan Lamont of Schroders, the MSCI World index has dropped by more than 10% in 30 of the previous 53 years. It fell just under 20 percent this year, having dropped more than 20 percent in 13 of those years. The best course of action is probably to remain composed and follow your plan because getting alarmed by volatility could end up costing you money in the long run.

Retail investors in the US, particularly younger ones, are hardwired to "buy the dip" and are less likely to panic when volatility spikes, according to strategist Ed Yardeni. Their consciences are ingrained with the belief that stocks are for the long haul. They are correct, in my opinion, to purchase the dips. As we scare the living daylights out of the politicians, it will likely be resolved, so I hope we have a debt crisis in the coming months. When pessimists turn into optimists, that's when you need to be on your guard. If only investors in the UK had that kind of mindset.