Will Your Portfolio Go Cold as Summer Heats Up?

The markets started yesterday on an optimistic note following better-than-expected earnings from UPS (UPS) and a strong quarterly report from CSX (CSX). Both reported earnings on Wednesday after the markets had closed.

Trading slowed following a strong first hour, and by noon stocks were just slightly ahead. But the strong earnings for the two transportation companies gave analysts something positive to write about and confirm thoughts that the economy is turning around. The transports are often cited as a major leading indicator of economic growth.

The technology sector remained strong in anticipation of better earnings from Google (GOOG). Google closed 1.07% higher and helped the Nasdaq lead the other indices in percentage gain for the day, up 0.43%.

But all of the news was not good and some of the nasty news came from the technology sector. Hewlett-Packard (HPQ) fell 0.5% following reports that both German and Russian officials are conducting a criminal investigation, and they allege that the company has paid out “millions” in order to win contracts in Russia.

Industrial Production in March rose by a much smaller-than-expected 0.1%. Capacity utilization was in line with expectations. The Empire State Manufacturing Survey hit a five-month high, and the Philly Fed Survey for April beat consensus estimates. But jobless claims and continuing claims were up more than expected — jobless claims to 484,000 and continuing claims to 4.64 million.

At the close the Dow Jones Industrial Average was up 21 points to 11,145, the S&P 500 gained a point, closing at 1,212, and Nasdaq gained 11 points at 2,516. On the NYSE, volume rose to 1.2 billion shares with advances and declines even. Nasdaq’s volume rose to 704 million shares and advancers led decliners by almost 3-to-2.

May Crude Oil was down 33 cents to settle at $85.51 on the unexpected rise in new U.S. jobless claims. The Amex Energy SPDR (XLE) closed at $60.32, down a cent. June Gold rose 70 cents to $1,160.30 an ounce after trading lower for most of the day. The PHLX Gold/Silver Index (XAU) was down $1.81 and closed at $173.06.

What the Markets Are Saying

Virtually all of our internal and sentiment indicators are back to either “overbought” or “very overbought,” and the market is back to plodding after Wednesday’s big triple-digit day. Yesterday volume did increase just a bit after languishing at under 1 billion shares (NYSE) for almost a week. But yesterday’s lack of enthusiasm, even after some glowing earnings from some of the market’s key players, should make us pause and again ask ourselves just how much higher this market can go without a significant correction.

Yesterday I referred to the seasonal pattern commonly known as the “The Halloween Indicator”or the “Sell in May and Go Away“system. Essentially what this process relies upon is the pattern that was studied in the American Economic Review and has existed historically in 36 of 37 countries studied. Briefly the conclusion is that stocks perform better in the winter months (Halloween to May) than the summer months (May Day to Halloween).

The study found that in the summer months returns have averaged much less than in the winter months by such a large factor that many investors literally cleaned out their portfolios in advance of May. And no wonder. The study concluded that virtually all of the long-term gains were made in the winter months. The implication is that going to cash between May Day and Halloween will have only a minor impact on long-term results but will significantly reduce risk thus increasing overall returns by a substantial amount.

Like all timing strategies this one doesn’t always work. And in the most recent bear market the winter months from November 2008 through April 2009 saw stocks fall through the floor. But if followed over a long period, the missteps are overcome and the strategy is shown to beat the “buy and hold” method by a significant percentage.

Next week I’ll cover some “triggers” that I recommend to tell us precisely when to get in and get out. If you follow this column you will no doubt recognize them as our internal indicators.

Stay alert — it’s a jungle of bulls vs. bears out there.

Thanks to Mark Hulbert of MarketWatch for some of this data.