The term “seasonality” is thrown around a lot in the media and by analysts. The frequency of its use increases dramatically at the end of each month as we all tend to look at our tea leaves to determine where the market may lead us during the next 30 days.
Forget about the clichés and Super Bowl winner indicator discussions, monthly seasonality is something that should be on any investor’s radar. It’s hard to get a true handle on why some simple seasonality measures work, but it’s clearly to your advantage to mind the calendar when it’s likely to create a tailwind for stocks.
That’s the case for the next few months, as S&P 500 (SPX) seasonal performance is typically strong from March through May. The chart below displays the average SPX return for each month of the year, calculated back to 1990. Clearly, the standouts are March, April and May, which post the best three-month performances by far.
Clear also in this chart is the reasoning for the “sell in May and go away” chant that gets oh so much publicity in the waning days of the spring trading season. That’s a talk for a day a few months from now, though.
So why the clear difference in performance? One of the easier explanations centers on the tax calendar.
Typically, the tax season is a time that gets individuals looking at their finances and making some choices. There’s the obvious paying of taxes, which induces annual contributions to IRAs that typically flow into the market. While this makes perfect common sense, there are other measures at work that explain why the upcoming months perform better than any other consecutive three-month period of the year. For now, we’ll continue to watch as the seasonal winds start to blow stocks higher.
What Lies Ahead
You’re probably asking how this fits into our short-term outlook, which has been slightly bearish of late.
From our perspective, the market continues to provide some signs that a short-term pullback or correction is still in the cards and could play out within the next week or so. A few weeks ago, we pointed out that the SPX was going to make a rush at the 1,200 level before the end of March after it broke resistance at 1,150. We still hold this outlook as the most likely to happen, as the market has been itching for a decline to convince those who’ve been holding cash to step in and buy at lower levels.
This week’s volume has lightened up a bit, as many traders with the larger wheelbarrows full of money have started to head out of the office for the Easter holiday weekend. With the trading week shortened by a day (markets closed on Good Friday), we expect there to be little to no action until next week. Of course, there’s an exception …
The government will release the March employment report Friday while the market is closed. As of now, market expectations run anywhere from 175,000 to 210,000 jobs added in March. That’s a big number — and it carries big expectations.
Today’s ADP reports failed to back those expectations up, showing instead a decline of 23,000 jobs compared to an expected 40,000 increase in the private sector. So far, the light trading volume has helped stocks to pare their early losses after this news. A sour number on Friday will be harder for the market to swallow next week.
Trading Strategy
OK, so what are we doing?
We’ve been adding some call options to our portfolio on the recent weakness and will continue to do so, especially if we get a short-term pullback of 1%-3% as we think we will.
We expect to see some volatility return to the market as earnings season approaches a couple of weeks from now. The volatility will provide another layer of opportunity to the current bull market run.
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