Sell in May and go away? 3 reasons why that’s a risky strategy

The world of investing is filled with proverbs and mottos. One saying, “sell in May and go away,” is a concept that has caught the attention of investors for decades.

The phrase suggests a seasonal pattern in the stock market, where historically, stocks perform better during the colder months (November to April) compared to the warmer months (May to October). But is it just a catchy saying or is there something to it?

Origin of ‘Sell in May’

Many credit the “Stock Trader’s Almanac,” a book known for highlighting historical market trends, for coining the sell-in-May phrase.

Written by Yale Hirsch in 1967, the book’s concept of the “best six months of the year” suggests that historically, the period from November to April has seen stronger average returns than the rest of the year.

One way to execute Hirsch’s switching strategy is by swapping out stocks in your portfolio in favor of cash or bonds. During the “best months,” you would be fully invested in stocks and mutual funds, while during the “worst months,” you would take your money out of stocks and leave it in cash or use the cash to buy a bond ETF or bond mutual fund.

Is there truth to ‘Sell in May and go away?’

There is some truth to the seasonality of the stock market.

Since 1990, the S&P 500, a major stock market index, has typically grown by around 2 percent on average from May to October, compared to a much stronger average gain of about 7 percent from November to April, according to Fidelity.

Interestingly, this pattern isn’t limited to only large-cap stocks in the S&P 500. Small caps and even global stocks have shown a similar trend, based on their respective S&P indexes.

3 reasons why ‘sell in May’ is risky

Piling onto the sell-in-May bandwagon isn’t a great strategy for the average investor. A closer look reveals some significant caveats to the catchy phrase.

1. Missed opportunities

Perhaps the biggest drawback of “sell in May” is the potential to miss out on summer rallies. The market is inherently unpredictable, and strong upswings can happen any time of year. By selling in May, you could lock in short-term losses and miss out on potential growth during the summer.

For example, in 2020, the stock market bottomed in March as investors panicked at the onset of the pandemic. But by May, the market was already recovering. If you had sold a majority of your positions in May 2020, you would have crystallized those early Covid-19 losses and missed out on the strong rally other investors enjoyed the rest of the year.

Greg McBride, Bankrate’s chief financial analyst, also points out that closing out of stocks as summer approaches can burn traders on dividends.

“Over time, approximately 40 percent of total returns come from dividends,” he says. “Sitting on the sidelines for half of the year means forgoing half of the annual dividends. Besides, if the market does have a tendency to slump in one part of the year, wouldn’t you want to be reinvesting those dividends at lower prices?”

2. Presidential election years break the trend

This year might be even more likely to buck the sell-in-May trend, says McBride.

“History has shown that in presidential election years, market returns tend to be higher in the second half of the year rather than the first, throwing the whole ‘sell in May and go away’ thesis on its head,” says McBride.

In fact, the S&P 500 increased 2.3 percent on average during the May to October period during presidential election years and was higher nearly 78 percent of the time, according to Carson Group data dating back to 1950.

3. It’s not a guarantee and there are other factors to consider

Past performance does not guarantee future results. Just because a pattern held true in the past doesn’t mean it’ll continue.

The average return difference between the two periods might be statistically significant, but maybe not substantial enough to justify the effort and potential costs of actively readjusting your portfolio based solely on the time of year.

Finally, the performance of specific stocks is influenced by many factors unique to each company, including earnings reports, industry trends and management decisions. These often have a much bigger impact on a stock’s price than seasonality.

Alternatives to ‘sell in May’

Instead of taking “sell in May” as gospel, practicing other investment strategies is much more likely to serve you well in the long run.

Dollar-cost averaging is the practice of investing a fixed amount of money at regular intervals, regardless of how the stock market is performing. Trying to time the market consistently is notoriously difficult, even for professional traders. Practicing dollar-cost averaging helps average out your cost per share over time and reduces your risk of buying at a peak.

Another option is buying and holding a handful of index funds, or passively managed investments that track a specific market index, such as the S&P 500.

Unlike “sell in May,” which requires active management of your portfolio, index funds are a set-it-and-forget-it approach. Once you invest in an index fund, you can hold it for the long term without needing to constantly monitor the market or adjust your holdings. A well-diversified, long-term approach to investing is generally considered a more practical approach.

Bottom line

The sell-in-May-and-go-away adage might be an interesting piece of investing folklore, but it shouldn’t be the cornerstone of your investment strategy. Index funds, with their built-in diversification, low costs and ability to capture market returns, offer a more reliable opportunity for the average investor. By focusing on a long-term strategy, you can avoid the pitfalls of market timing and position yourself for success, no matter the season.

Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.