ING IM’s Ad van Tiggelen reviews the rule to ‘sell in May
Ad van Tiggelen, senior investment specialist at ING Investment Management, has reviewed the adage that it is better for equity investors to ‘sell in May’.
In equity markets, “Sell in May” is one of those rare rules of thumb which actually seems to work. For example, between 2010 and 2012 the US equity market rose on average 8% in the first four months, then declined 7% during the summer, only to jump again by 8% in the last four months. Within this timeframe, the summer weakness coincided with a dip in global growth and unrest in the Eurozone. With economic data recently worsening again we therefore have to ask ourselves: is it indeed time to leave on an extended market holiday, only to return in September?
Developments this year certainly show a worrying similarity to previous years: after a strong start to the year, equities have lost some momentum, driven by weakening economic data and a lacklustre start to the earnings season. This fact alone makes a summer exit from equity markets almost look like a no-brainer. After all, if neither economic data nor corporate earnings surprise on the upside, who is going to support equity prices in the coming months? Central banks? Unlikely. They already bailed out investors on previous occasions and seem to have made their positions on the near future quite clear, except maybe for the ECB. Who else then?
In order to answer that question we first have to realise that a comparison of current financial conditions with those of the past few years does not only yield similarities but also some clear differences:
– Whereas the previous three summer periods were all characterised by severe problems in the Eurozone, the current situation is probably more stable, with bond yields in the periphery declining and targets on national budget deficits slightly loosened.
– The US economy appears on a firmer footing than at any other time since the start of the credit crisis, given the fact that house prices and employment are recovering.
– Inflation expectations in the developed world are very muted, helped by falling commodity prices and low wage growth. In previous years investors still feared that central bank stimulus would lead to an increase in inflation.
– Japan has recently embarked on an unprecedented stimulus program. With the Bank of Japan buying up bonds at a fast pace, creating an artificial scarcity, the global wall of money in search for yield grows even further.
– Yields on fixed income and savings accounts have fallen to the lowest level ever and may drop even further, given the downward pressure on inflation in the US and Europe.
Given these circumstances, the desperate search for yield increasingly leads investors to label defensive equities with attractive dividend yields as T.I.N.A. (There Is No Alternative). This development is clearly visible in the changed leadership in equity markets, where these kind of equities led the rally; an unusual phenomenon. Given their on-going scarcity value, we think that it is unlikely that these defensive stocks will correct significantly over the summer months. That leaves cyclicals and financials as candidates for a correction. However, contrary to previous years many cyclicals have not participated in the past rally and especially commodity related stocks now look downright cheap, offering less room for a sell-off. As to financials, they would probably only fall significantly if the euro crisis flares up again, which does not seem very likely in the short term.
To conclude, we think equity markets can hold up reasonably well over the summer months, even in the absence of positive economic surprises or broad based central banks stimulus. It is the absence of alternatives which is likely to support equity prices, more than anything else.