October 25th, 2010

Calendar-Based Market Timing

For years I thought the key to investment success was good stock picking; find the right stocks and you’re going to see your portfolio grow. Doesn’t “you-know-who” continually say there’s always a “bull market somewhere” and all you need to do is find it?

Actually, I, along many others, stopped drinking that cool-aide in 2003 after seeing retirement and savings investments shrink by about 40%. That’s when I embraced another belief system. One based on the belief that the key to outstanding financial performance is successfully timing the market. “If you worry about the downturns, the uptrends will take care of themselves.”

But there are all sorts of market timing techniques. Right now we’re at the beginning of one called the “mid-term election year cycle”. Over 80 years and 25 presidential elections, the stock market has followed a fairly definite course during the period surrounding the mid-term elections.

Since 1931, the 5-quarters surrounding that election (one quarter before through 4 quarters after) have always been up with an average return of 25.5% plus dividends. Had you invested $1,000 in the Dow Index only during these 4 quarters (31% of the time) it would have appreciated to $68,200 by the end of 2009. A $1,000 investment in the Dow only during all remaining trading days (69% of the time) since 1931 would have grown to just $1,800.

But there are other interesting calendar-based timing rules:

  • January Effect: The hypothesis that stock market performance in January predicts its performance for the rest of the year. If the stock market rises in January, it is likely to continue to rise by the end of December. This rule of thumb has an outstanding record for predicting the general course of the market each year, with only five major errors since 1950, for a 91.5% accuracy ratio. Since 1950 this trend has been repeated 32 of a possible 39 times.
  • Santa Claus Rally: a rise in stock prices in the month of December, generally over the final week of trading prior to New Year. The rally is generally attributed to anticipation of the January effect, an injection of additional funds into the market, and to additional trades which must, for accounting and tax reasons.
  • Superbowl Effect: The Super Bowl Indicator says that the stock market’s performance in a given year can be predicted based on the outcome of the Super Bowl of that year. If a team from the American Football Conference (AFC) wins, then it will be a bear market (or down market), but if a team from the National Football Conference (NFC) wins, then it will be a bull market (up market). The indicator has been correct 33 out of 41 times, as measured by the Dow Jones Industrial Average – a success rate of over 80%.
  • Daily: On a typical market day, volume will often look U-shaped being heaviest in the first 90 minutes of the day, again in the last 60-90 minutes and usually light in between these periods, with the lightest volume occurring during the noon hour period (Eastern).
  • Weekly: It’s been said that “amateurs” trade on Mondays and Fridays while pros trade mostly during the middle of the week.
  • Years:
    • Years ending with the digit “0” have been the worst year in the decennial cycle for 127 years. For the last nine decades, the market ended up on only three occasions for the years ending in “0”.
    • Another annual cycle that comes close to being constant is the four-year-cycle with the Dow Jones Industrial Average making lows in 1950, 1954, 1958 and in 1962….there are bottoms in 1966, 1970, 1974, 1978, 1982 and 1987….the market reached bottoms in 1990, 1994, 1998 and again in 2002….It appears that [the market] wants to make a bottom every four to four-and-a-half years no matter what we think should happen. Not actually declines but there was a consolidation pause in 2006 preceding an up leg…..will 2010 follow suit?
  • Options Expiration: Options expiration days can be and usually are extremely volatile with unpredictable results as to whether the market winds up or down.
  • The Ordeal of September and October: While September is known to be the worst month of the year, most Crashes take their biggest tolls in October, with most Black Fridays or Black Mondays occurring during those two months. Between 1939 and 2009, the S&P 500 suffered an average loss of .33% in September… the only month when the average change was negative. Had it not been for the major crashes, October would have been no different than any other month.
  • Summer Doldrums (aka “Sell in May ….”): Whether due to the fact that most Americans take vacations during the summer or because of the overlap with the September/October Ordeal, statistics bear out the fact that if investors were to take their money out of the market at the end of April and reinvest six months later at the beginning of November, performance would improve appreciably. Here are some of the facts:
    • Since 1950, the DJ 30 has produced an average gain of 7.4 percent from November through April vs. 0.4 percent from May through October.
    • Investing $10,000 in the DJ 30 during the “best” six-month period and switching to bonds during the “worst” six months every year since 1950 would have posted a $527,388 return. Doing the reverse would have cost the investor $474.
    • The same approach with the S&P 500 index all the way back to 1945 shows November=April returns beating the remaining months 71 percent of the time.
    • Adhering to the practice also would have reduced risk by avoiding the stock market crashes of 1929, 1987 and 2008.
  • Lunar: Finally, many adherents believe that the periods around new moons are bullish as compared with periods around full moons (see “Lunar Cycle Update“).

All these facts and statistics are interesting but I’ll rely on the market telling me when it’s time to buy or sell; I’ll stick with my market timing indicator.

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  • Denali92

    I LOVE the list, and I am bookmarking it for future reference!

    You are SO RIGHT! Every year, every one of these indicators is rolled out and some win and some lose…

    In the years with a negative January (that is down 1% or more) during the mid term election year and during the first term of a president, there is an 80% probability that the market ends down for the year!!!

    (It is a bizarre one, but true…. (1962, 1978, 1990, 2002 with the only outlier – 1970)

    THANKS, as always, for your posts!

  • Anonymous

    Hello Joe,,what would the returns be for the past 50 yrs if we bought the market on Nov1 and sold Jan 30 every yr ? Thanks for any info.

  • Joe

    Well here's a shocker! $1000 invested on January 1, 1939 would produce by April 30, 2010 (average annual % return):

    Your question
    buy Nov 1-sell Jan 30=11,564 (3.815%)
    buy Feb 1=sell Oct 30= 7,707 (3.700%)

    "Sell in May and Go Away"
    buy Nov 1=sell Apr 30=34,960 (5.800%)
    buy May 1=sell Oct 30= 2,310 (1.707%)

    buy and hold
    Buy Jan 1939=sell Apr 2010 89,279 (8.036%)

  • Anonymous

    your list ist just half of the story… how BIG are the drawdowns when it does not work out as 'predicted'? the rule of thumb could work 80% of the time… and you could still end up losing money… mmmh, think about… correlation vs. causation!!!