Stockmarket Update 27 May 2013

Since my last update 11 April 2013 the market has continued to advance at an unbelievable (and very unhealthy) rate.

There are signs a market correction (perhaps of some significance) is due to begin (with a good possibility a market top may have been put in place Wednesday last week).  As such, today’s blog will go through various concerns I have.


CLICK ON ALL CHARTS TO ENLARGE:


1)  Seasonal Trading Pattern:

The first is the well known adage "Sell in May and go Away".  This yearly seasonal pattern has a very long history of producing the bulk of yearly stock market returns going back to the 1880's.

Here is the pattern for the S&P 500 Index since 1950 (other markets follow similar patterns).

As can be seen, the premise is the 6-month period from November through April produces the bulk of all yearly gains with the May through October period exposing investors to market risk/volatility for very little reward potential.

The 1st technician to formally identify this pattern was Yale Hirsch of The Stock Traders Almanac.  The chart below is a reproduction of the "Six-Month Switching Strategy" published in the Stock Trader's Almanac (updated yearly in that publication).

As can be seen, the chart takes into account 2 investing strategies; investing $10,000 in the Dow Jones (DIA) on May 1 each year and then selling on October 31st of that year (the summer months), or doing the same for the November 1 to April 30 period (the winter months).

As shown, if you were to invest $10,000 in the Dow Jones on May 1 and sell it on October 31 each year since 1950, you would have actually lost money as of 2011. On the other hand, if you were to invest $10,000 on November 1 and sell it on April 30 for every year since 1950, your investment would have grown to over $700,000, representing an average annual rate of 7.1%.

Looking across the 62 years since 1950, we see that only 13 of these years saw a negative return during the November to April "winter" period. And only three times (1969, 1973, and 2008) did the Dow Jones fall by more than 10% during the "winter" 6-month period. As for the "summer" months from May to October, during this period the Dow experienced a negative return for 25 of the 62 years, and saw the Dow decline more than 10% during 11 of the 62 years.

Of course, there will always be exceptions to the "rule"  The year 2012 was one of those with a strong period June 01-Sept 14 (returning 14.7% from the low to the high for the period).  HOWEVER, the seasonal period as a whole for the past seasonal cycle did in fact return as per the historical seasonal pattern:

-May 01 2012-Oct 31 2012:   +0.45% (big sell offs in May and Oct offset the 14.7% rise mid-cycle)

-Nov 01 2012-Apr 30 2013:  +11.91%

Given the Seasonal Pattern, it is important to include it in any analysis and market decisions.  However, another technician (Sy Harding) improved upon the strategy.  Firstly, he back tested 100 years of market data to come up with a specific buy and sell date which would have delivered optimal returns.

Through back testing he determined the optimal entry dates as follows:

October 16:  The optimal seasonal buy signal date yearly
April 20:  The optimal seasonal sell signal date yearly

He then applied a technical indicator (the MACD I use extensively) to signal entry/exit into stocks once the calendar date has entered into the buy or sell dates.

This is my seasonal chart and annotated buy/sell signals:

I use a slightly more complicated MACD entry/exit than Harding but in line with his basic premise.  The key point is we entered the seasonal "sell zone" on April 20 (as per Hardings "rules") and my chart triggered a stock sell signal as of last Friday, 24 May 2013,

As can be seen using my own Seasonal Timing Strategy, my entry signal was Nov 22, 2012 with May 24, 2013 as the sell signal.  Using this strategy, the return for the period was +18.59%.

As can be seen, using a combination of Hardings STS dates and my MACD entry/exit rules significantly outperformed the standard seasonal patterns return of +11.91% last year (and does so most years).

2)  Percentage Losses:

I showed this chart some time ago but a reminder of the importance of not losing money!

Note the return required to get "back to even" given various losses.  This is the reason why it is important to:

a)  be cautious with investment capital (especially during the seasonally weak period), and
b)  use technical analysis to sidestep bear market declines. 

Never forget this chart when assessing market potential gains vs. potential losses.


3)  Current Market:

The S&P 500 index has hit right at the top of the current channel from the 2009 bottom.  Would this be an ideal opportunity to invest further or the ideal opportunity to take some profits?

The 1 box PnF chart signaled as sell signal on a price print of 1648 (Fridays close was 1649).  Target is currently 1586.

-Monthly chart bullish but overbought.

-Weekly chart bullish but overbought.

-Daily chart bullish but overbought.


Bottom Line:


I once again reiterate the following:


-long term we remain in a bull market. The current long term is overbought so it is not the time to add large scale purchases (or large switches from cash/bonds into equities) to provident fund accounts based upon potential risk to reward.

-medium term we remain bullish and in an uptrend. The current medium term is overbought so it is not the time to add large scale purchases (or large switches from cash/bonds into equities) to provident fund accounts based upon potential risk to reward.


-short term we are bullish and in an uptrend.  The current short term is overbought so it is not the time to add large scale purchases (or large switches from cash/bonds into equities) to provident fund accounts based upon potential risk to reward.



Given the above overbought condition in all time frames, combined with the seasonal sell signal, combined with the top of the channel from the 2009 bottom, this is obviously not a place I recommend you commit large amounts of investment capital.  Quite the contrary, I would suggest those who are heavily long the market assess whether this might be the opportunity to take some risk off the table.
Once again the overbought nature of the markets currently precludes me from increasing my exposure significantly beyond current 50% levels until I see a significant pullback. A pullback of 10-15% would have me much more interested in doing so on a risk/reward basis but we have yet to get that pullback. Until then the market has forced me to maintain a 50% exposure (which I am very comfortable with) at current.

Never forget the old Wall Street saying:

-Bulls make money
-Bears make money
-Pigs get slaughtered

My current exposure within the A+B accounts remains at a tactical 50% equity/50% USD cash position as follows:

-Russell Global 90 Fund: 40%

-Fidelity International Fund: 10%

-Russell USD Liquidity II Fund: 50%

(Obviously actual percentage allocations will fluctuate based upon daily/weekly/monthly based price movements and ongoing monthly A+B account systematic equity purchases)


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