This is one of the oldest investment saws out there, and that’s a testimony to its durability.  The Stock Trader’s Almanac–I’m using the 2008 version so it missed out on that horrendous Autumn, and also 2009’s great Summer run–has compiled statistics back to 1950 regarding its Six-Months Switching Strategy.  It found that a $10,000 investment grew to $578,413 by just investing from November – April, but grew to just $341 when invested in all of the May – October periods.  Notice, too, that one would have been ill served by following the strategy over the last two years, so it’s clearly not fool proof.

David Kotok, of Cumberland Advisors, did some work on this phenomenon and discovered that the determining factor–make that A determining factor–is monetary policy, or whether the Fed is easing, tightening, or neutral on the monetary gas pedal–mostly measured by interest rate policy. 

• If it’s tightening, one should sell in May and go away
• If it’s easing, one should not sell in May, but stay invested, ceteris parabis
• If the Fed is neutral–and this seems to be a key, but unstated, conclusion from Cumberland’s work (see the original at the link below)–there are other factors that explain seasonality

Here’s Cumberland’s conclusion:

So, what do we do in 2010?

The Fed is unlikely to raise the targeted Fed Funds rate between May and October this year. They cannot lower it, since it currently is between zero and a quarter of one percent. Therefore, the application of the results of our historical study is hampered by the existence of the zero-interest-rate lower boundary. For this reason, we have to assume the Fed is either neutral or easing, and cannot be sure which applies. We have no history to guide us.

The same logic applies to other markets of the world. When we survey central banks, we find that Japan is unlikely to raise its targeted policy interest rate. It is currently near zero. The UK is also unlikely to raise its policy interest rate. In Europe, we are witnessing a massive easing of credit as the European Central Bank and the European Union create their version of a crisis response. Their policy may be likened to our American TARP and Federal Reserve activities following the failure of Lehman Brothers.

The Federal Reserve’s expansion of international swap lines appears to us to be a form of easing. Granted, it comes in response to the European crisis and the ECB initiative. However, easing is easing, no matter what form it takes.

As a result, we enter the May-October period with the working assumption that the G4 central banks are collectively easing. This should neutralize the negative seasonals in 2010. That is bullish for stock prices.

Here is the complete article.

Ned Davis Research is one of our key investment strategy providers.  (I should probably call them something like a key investment strategy partner, but who’s kidding who:  we write them a check; they send us e-mails).  Every year, NDR puts together a composite of how the year might unfold based on three historic studies:

• Four-year Presidential cycle
• 10-year (decennial) cycle
• Annual seasonality.

Here is a link to the chart.  (Just kidding, Ned & Co. if you’re out scanning the internet for copyright violations).

To avoid getting a hand-slapping from the fine folks at NDR, let me just describe the chart:  sell in May and go away.  The twist that they put on this is that they “don’t fight the tape,” which is to say that they allow their strategy to be guided by various readings and indicators.  They don’t sell just because the calendar gets flipped from April to May.

So far, however, the market seems to be holding the un-edited script that says sell in May and go away.  If we decide to go with this thinking you’ll be the first group–okay, second–to know.  First, we sell out our client accounts, then we put something on the blog.  If you want to be in the first group, you know how to find us.  Click here for starters.