Should you sell in May and go away?

Stocks are trading at all-time highs and, year-to-date, prices have risen faster than earnings. The traditional summer lull is drawing closer. Investors would be forgiven for wondering whether now is the time to follow the old stock market adage to sell in May and go away.

But before de-camping for the summer months, investors should consider the following:

1. Record highs tend to be supportive of, rather than detrimental to, near-term returns.

• Using S&P 500 price data since 1950, after stocks set an all-time high, their subsequent six-month price return has been 4.7%. On any other day, the average subsequent six-month return has been lower at 4.2%. Furthermore, after the index reaches a peak, subsequent large falls have also been less common. The market has just 11% of the time declined by more than 5% over the six months following an all-time high, compared with 18% of the time otherwise.

2. Stocks are fairly valued rather than expensive.

• The trailing price earnings ratio for the S&P 500 is currently 18.1x, close to its 20-year average of 18.3x. Furthermore, when the misery index (the sum of unemployment and inflation) is below 6.4% (today it is 5.7%), the S&P 500 has traded on a trailing price earnings ratio of 20.1x.

3. A "sell in May" strategy would have historically proven costly.

• Stock market returns are indeed lower in the summer months, but they are still positive. Since 1928, returns from May through August have delivered an annualized return of 2.3%. This might sound small, but makes a big difference over the long term. An investor who put USD 100 into the S&P 500 in 1928 and followed a “sell in May” strategy (shifting out of equities into 3-month Treasury bills from May through August) would today have an investment worth USD 5,800. But USD 100 invested in 1928 would be worth more than USD 16,000 today if invested over the whole period, almost three times as much.

As such, we continue to advocate the importance of staying invested for the long-term, and focusing on time in the market, not timing the market.

That said, investors will need to ensure portfolios are set up both to grow toward long-term goals and also to protect against the risk of near-term wobbles. In our recent note, Be prepared: Plan, Protect, and Grow, we described some of the ways how:

Plan.

• Take the opportunity to consider your near-term spending plans, and hold enough in cash or short-term bonds to meet your cash flow needs over the next two to five years. But holding too much is likely to be costly, since cash is likely to return less than inflation and underperform a diversified portfolio. So we recommend a balance, keeping enough in reserve to meet near-term plans to avoid being forced to sell assets during a volatile market, while avoiding a cash drag that hurts your long-term investment returns.

Protect.

• We expect the expansion and bull market to continue for some time, and recommend a risk-on positioning. But it's also important to manage downside risks. We recommend a tactical overweight to long-duration Treasuries as a part of this protection and, looking beyond our 6-12 month tactical horizon, our Bear market Guidebook also provides insight on structural and strategic ways to protect against the next downturn, when it appears. In addition to ensuring diversification across regions and asset classes—which is key to mitigating tail risks—investors should also consider incorporating momentum-based asset allocation strategies to recalibrate equity exposure based on the evolving market and economic backdrop. This type of strategy has the potential to provide downside protection while also participating in growth as the bull market continues.

Grow.

• We currently see the best tactical opportunities in Japanese and emerging market equities, which have lagged in the recent rally, offer attractive valuations, and have earnings growth that can benefit from a re-acceleration in global growth. Investors should also look past the current economic cycle to find opportunities in secular trends, through strategies like our CIO equity model portfolios (Quality Growth at a Reasonable Price, or Q-GARP, and Midcap), our Long Term Investments series, and our House View Sustainable Investing portfolios.

In short, we don’t think investors should sell in May and go away. But Plan, Protect, and Grow in May can help investors prepare for the summer months.

Bottom line

Stocks are trading at record highs, which might tempt some investors to follow the old stock market adage to sell in May and go away. However, history shows that reaching an all-time high is not detrimental to near-term returns, and a sell in May strategy lowers long-term returns. We believe it’s important to focus on time in the market, rather than timing the market. But now is a good opportunity to ensure portfolios are set up both to grow toward long-term goals and also to protect against the risk of near-term wobbles.

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