The Investment Scientist

Stock Market Seasonality

Posted on: June 16, 2007

Does the stock market have seasonality? Well, if you have abode by the old investment adage “buy in November and sell in May”, you would have done quite well (if you don’t count taxes and transactions costs). This is because stock gains in November through April have typically been stronger than May through October for reasons yet unknown to mankind.

The Stock Trader’s Almanac has demonstrated this by tracking what would happen to a $10,000 investment in the stocks that make up the Dow Jones industrial average. Over 56 years, this money invested in the Dow stocks in the “best six months” and then switched to fixed income in the “worst six months” grew to $544,323. But if the money invested in the Dow in the “worst six” and then switched to fixed income in the “best six” would result in a loss of $272.

Stock market seasonality is not a unique American phenomenon. A scholar at Erasmus University Rotterdam by the name of Wessel Marquering did a rigorous study of the seasonality effect of 5 major stock markets in the US, UK, Germany, Netherlands and Belgium. He found that the stocks perform better in “winter” season than in “summer” season in all 5 markets (see chart).

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How can investors benefit from the seasonality effect? The short answer is “Not much.” Surely one can follow the strategy to “buy in November and sell in May”. This strategy sounds tempting in theory, but jumping in and out of stocks forces the investor to pay transaction costs and short term capital gain taxes. These costs would be more than make up for whatever benefits the strategy might bring about. Using the example referenced above at the Stock Trader’s Almanac, the total capital gain taxes adds up to about $159,000, which is much more that the $272 saved! Further more, I haven’t accounted for the transaction costs yet. Unfortunately, most investors would trade stocks and funds without much regards to the transaction and tax consequences.

Although the seasonality effect can not be exploited directly, the awareness of which could make the investors mentally prepared for the more volatile summer season. My suggestion to you is: stay put, and prepare for a bumpy ride.

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Author

Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC. He is also a regular contributor to Morningstar Advisor and Physicians Practice. To explore a long-term wealth advisory relationship, schedule a discovery meeting (phone call) with him.



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