Among traders (not investors), there is a saying: “Sell in May and go away.” This is based on research that suggests six-month equity returns for the period May through October typically lag those for November through April. This also holds true in midterm election years, such as 2018.
How should an investor use this information in 2018? First, recognize the summer months may be choppy, especially with election-year uncertainty. Second, and more importantly, remain invested to reap the longer-term benefits that equity investing provides. Indeed, according to Strategas Research Partners, the S&P 500 has never declined in the 12 months following midterm elections since 1946. Even better, Strategas observes that the average S&P 500 price return in the 12-month period following midterm elections from 1950 through 2014 has been 15.3%. (Full disclosure: the 12-month returns following the 2010 and 2014 midterm elections averaged about 4%)
There are perils associated with a seasonal approach to investing. It is essentially short-term thinking and is not necessarily going to be correct every year. For example, if you had sold at the beginning of May this year, you would have missed unusually strong domestic equity returns. The S&P 500 rose 2.4% on a total return basis and is now up 2.0% year to date through May 31. Smaller cap stocks did even better in May, with the S&P Mid-Cap 400 up 4.1% and the S&P Small Cap 600 rising over 6%.
A strong U.S. economy, and very strong Q1 corporate earnings, provided the fundamental underpinnings for this advance. As we look forward, we continue to see these two pillars providing tailwinds for domestic equities. Recently, in fact, the Labor Department announced that the U.S. unemployment rate fell to 3.8% in May, equaling April 2000 as the lowest rate since December 1969. The Labor Department also announced that U.S. employers added 223,000 jobs in May, with May marking the 92nd consecutive month of job expansion, the longest period of job growth on record. Not surprisingly, equities rose sharply on the news. Not a bad way to begin June!
That said, there are several headwinds that likely will cause equities to be range bound over the next few months. U.S. tariff policy and potential trade wars continue to dominate the headlines. The Federal Reserve likely will raise rates again in June, and considerable attention will be placed on whether there will be a September rate hike as well. The upcoming midterm elections will provide political uncertainty and added volatility over this period. Internationally, the recent political drama in Italy and Spain highlight the challenges ahead facing the EU where economic growth is already slowing. A rising U.S. dollar over the past month or two has caused some to re-think the short-term allure of emerging market economies. Geopolitical risks, of course, also remain in China, North Korea, Iran and elsewhere. Taking all this together, the synchronized global economic expansion theme will be tested over the months ahead.
While it is possible the May through October time frame may produce relatively muted returns, and we expect continued volatility this year, we believe the path of stocks will be higher over the next 12 months. Thus, don’t “sell in May,” but instead stay invested, using a diversified mix of assets classes including fixed income where appropriate. Over the long term, you will be happy you did.
As always, we encourage you to reach out to us with any questions, concerns, or perspectives you may have. Please contact your portfolio manager, or you may reach us at 610-975-4300, or email email@example.com.
Mr. McFarland is President, Chief Executive Officer, and Chief Investment Officer of Pennsylvania Trust.