Seasonal influences on risk assets are no myth. While the tendency for a summer slump in stocks also has some truth to it, in my humble opinion, the more important factor to look for is an increase in volatility.
Click to Enlarge The No. 1 factor in my analysis is always the current market environment/structure, and that also holds true for the summer months. In the weekly chart of the S&P 500, I highlighted the summer months (May-August) for each of the past 10 years. While certain summer periods such as 2008 and 2011 certainly had an ugly tone to them, there were multiple summer periods with flat-to-positive performance. In 2009, for example, the U.S. government started massive stimulus programs to raise asset prices, which was the overriding structural factor to focus on and led to a big summer rally.
As we head into May this year, we again must understand the current environment. While it’s too early to make a prediction, I will point out that equities have rallied nicely this year, and further stimulus in the form of quantitative easing or the like might not be on the table unless equities see lower prices again. On the other hand, with a presidential election around the corner, we can be sure that everything will be done to keep the house in order until the end of November.
During the summer months, trading desks are less staffed than during the spring and fall, which can lead to a drop in volume — especially toward the end of the summer. Therefore, when I speak about a tendency for increased volatility in the summer months, I don’t so much mean spikes in the VIX as I mean an increase in the frequency of irrational market moves that might be difficult to forecast using traditional technical analysis.
“Sell in May and go away” is an old Wall Street saw that has statistical validity. The clustering of positive returns for the S&P 500 Index is decidedly in the November-April period, when looking at average monthly returns since 1950.
As usual, there can be notable exceptions. Last year it worked nearly perfectly, with the S&P 500 falling 7.8% in the May-October period. In 2010, the summer lull produced a 5.01% return (about a third of what the market did in the following November-April period), although in 2009, the May-October period was amazingly profitable
as the market came off a generational low in March of that year.
In 2012, we have good odds to repeat statistical historical return patterns. The European situation has deteriorated notably in the past month following what looked to be temporary stabilization brought on by the deployment of 1% LTRO funds from the ECB in the problematic PIIGS sovereign debt markets.
Spanish credit default swaps just traded to a record 512 basis points this week, while the Spanish benchmark IBEX index is at 7,125 at last count, or just 6% above the generational March 2009 low. Given the 24% unemployment in the country and
bad loans spiking 110% on a YOY basis to 8.2% of total in February — the highest level since 1994 from less than 1% of the total in 2007 — one can see how further deterioration in Spain can be a potent catalyst for a repeat of last summer’s European drama.
Ivan Martchev is a research consultant with institutional money manager Navellier & Associates. The opinions expressed are his own. Investors should consult their financial adviser prior to making any investment decisions.