Fundamental Analysis (FA) lays claim to data emanating from a company’s balance sheet or business model. Earnings, valuation, consumer trends & preferences, sweet-sound narratives of why X, Y, or Z is happening – these are the things that make up the dreams of FA lovers.
Technical Analysis (TA) owns price and anything related to it. Momentum, trend, volume, and an endless stream of indicators – these are the tools of the technician. But so too is seasonality – or the study of price behavior through the different months or seasons of the year. Today I wanted to share a few of my favorite seasonal patterns.
Ho Ho Ho!
Let’s begin with the one that is nigh at hand. Santa is coming to town, and he has a history of showering investors with gifts. His entrance ushers in an epic seven-day period with extreme bullish tendencies. Allow me to quote Santa, who guest-penned my Santa Claus Rally post from 2016.
“December is the best performing month for the S&P 500 of the year. Due to its prominence among the seasonality crowd and the obvious tie to Old Saint Nick, you often hear pundits throw out the Santa Claus Rally as if it defines the historical bullishness throughout all of December. However: that, friends, is a misconception. For the authority on the rally, along with darn near any other seasonal influence, simply consult your nearest Stock Trader’s Almanac. If you don’t have one, maybe I’ll leave one for you under the tree on Christmas.
According to the Almanac, beginning just before or right after the market’s Christmas closing, we normally experience a brief, yet respectable, rally from the last five trading days of the year through the first two of the New Year. The S&P 500 has averaged a 1.5% gain over the seven day period since 1953. Not too shabby, if I say so myself. So you best give bulls the benefit of the doubt going into year-end. They’re my buddies, and I like them almost as much as my reindeer.”
Santa’s Stats
If you want to read Santa’s full note about his rally. Check it out here.
Practical Application: Favor bulls into year-end
The January Effect
How do you isolate the behavior of one market segment versus another for comparison purposes? Use a ratio chart. We’ll be doing just that with the January effect, which explains the tendency of small-caps to outperform the broader market in January (it actually begins in mid-December).
The graphic above is a ratio of the small caps vs. large caps. When the line is rising, small-caps are outperforming. When it’s is falling, small-caps are underperforming. Note the most prominent move in the entire chart that begins mid-December and runs through January. That’s the so-called January effect.
Practical Application: Bull trades on IWM are favorable to SPY around this time of year.
Sell in May
If you bisect the calendar into two six-month periods with May-Oct and Nov-April you will discover paltry returns for the former and huge returns for the latter. This has given rise to the phrase “sell in May and go away.” But here’s the full phrase: “Sell in May and go away, come back on St. Leger Day.”
And here’s the explanation from the Little Book on Stock Market Cycles:
P. 208
“Established in 1776, the St. Leger Stakes is the last flat thoroughbred horse race of the year and the final leg of the English Triple Crown. Apparently once the British horse-racing season concludes everyone can get back to the business of buying stocks.” While the St. Leger Stakes has little to do with stock market seasonality, it does coincide with the end of the worst months of the year for stocks.”
From 1950 to around 2011, the average Dow return from May through October was only 0.03%. In contrast, from November through April it was 7.5%.
That’s a big difference.
Summer months have a bad reputation for a reason.
Practical Application: Expect more chop and market corrections during the worst six months. Give buyers the benefit of the doubt Nov through April.
Final Thought
Seasonality is simply one force at work. It influences my outlook when all else is equal. But, the price trend always trumps. So, I’m not going to buy going into year-end expecting Santa to save me if the market looks like garbage.
Simply put, seasonal patterns tell me if the great ship U.S.S. Equities has a tailwind or a headwind.
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