Sell in May and Go Away

April 30th, 2010


Sell in May and sail away?

It still holds true, current research shows that the old investment adage “selling in May and sailing away” still makes a lot of sense, according to an analysis of market history.

A look at the performance of the Dow Jones Industrial Average over the 59-year period through 2009 shows that the index produced an average gain of about zero during the six-month periods from May to October, according to the 2010 Stock Trader's Almanac.
Over the same 59 years, the Dow averaged a 7.4% gain during the six-month periods from November through April.

To put it another way, $10,000 invested in the Dow during each of the May-through-October periods beginning in 1950 would have generated a cumulative total loss of $474.

But $10,000 invested in the Dow index only during the November-through-April periods would have generated a total return of $534,348. Wow!

The general rational for the seasonal market slump has been that May represents the start of vacation season and the reduced trading activity tends to pull down or hold down the markets. This is especially true in foreign stock markets. University analysis shows the system has worked in 33 of 34 countries tested.

Following the pattern in 2008 would have helped investors avoid a 27.3% drop in the Dow. Of course, the index still lost 12.4% during the following November-to-April stretch.
Getting out in May last year would have meant missing out on an 18.9% gain, while the following six months produced only a 15.4% gain.

While the research proves an advantage over the long term of strictly following the trading strategy, prudence dictates it is always best to take into consideration the overall market and macroeconomic environment, and of course, your tollerance for risk and time frames.

As of now, late April 2010, the Dow is coming off a really good run, and there are all kinds of technical and geopolitical issues to consider such as the debt crises in Greece, Spain, Portugal and Ireland. It might be a good time to tighten some stop orders and put some limits on new stock and mutual fund positions.

Barry Unterbrink, CRPC
(954) 719-1151

The 7% Solution (revisited)

The 7% bet ... is it prudent now?

This blog post was originally posted in September, 2008 near Dow 11,150; it's now updated through 2009. The market has fought back hard since the low's one year ago. If you've invested in stocks, you should be ahead nicely year over year. But what now? Perhaps employing a "safe money" strategy is prudent now with a portion of your money. Read on.

Investing has always been a trade-off. Making choices with your money involves weighing the potential risk and rewards to determine the best course of action to achieve your desired goal. So, in a way, investing is akin to odds-making. In America, wagering is never a sure thing, but you can weigh the odds by using past data. This is fairly easy to determine in the stock market since reliable statistics and performance are readily available for past sessions going back at least to before the Great Depression, or about 1925.

I thought it timely to undertake this market study now, as the stock market has fallen about 20% since its high last October (2007). I'm using this 7% figure to compare stock price performance vs. a hypothetical 7% rate of return, what's available in a fixed index annuity. The answer sought: is it generally better to accept the market risk of stocks (gaining above in any one year/decade, and also losing money), or to bet with the a less risky maximum 7% annual return with no risk of loss when the stock market is down for any year. To get started, I took the annual Standard & Poor’s 500 Index* and compared this with a fixed index annuity that would credit you interest annually based on the performance of the S&P 500 Index with a cap of 7%. The cap is the maximum you could earn in any year. The floor is zero in the down years. You would never lose money in a down year with your principal. Dividends were not considered for ease of calculations. Eight decades of data were used, starting in 1930, and ending in 2009. This covered all of my available data, and represented co-incidentally about the lifetime of an investor, 80 years.

The data presents itself as follows:
1930’s Stock market lost 41%, the 7% strategy gained 31%
1940’s Stock market gained 34%, the 7% strategy gained 40%
1950’s Stock market gained 257%, the 7% strategy gained 65%
1960’s Stock market gained 53%, the 7% strategy gained 50%
1970’s Stock market gained 17%, the 7% strategy gained 49%
1980’s Stock market gained 227%, the 7% strategy gained 66%
1990’s Stock market gained 315%, the 7% strategy gained 68%
2000’s Stock market lost 24%, the 7% strategy gained 40%

Well, the tally is pretty easy to figure visually: being a long term investor in the stock market paid off more than the 7% annuity plan, but you needed a strong stomach to stay in during all the bad markets periods (25 years were down years). Using the 7% maximum gain in any one year, and all down years counted as zeros, you would have beaten the buy and hold market one-half the time by decade, ‘30’s, ‘40’s, ‘70’s, and ‘00’s. The other 4 decades your stock portfolio would have bested the 7% strategy. Note also that all decades were winners for the stock market, except the '30's and '00's just completed. But - the 7% plan beat the market in the '40's and '70's due to truly bad years that reduced the average gains over the 10 year decade.

Taken all together, you earned about 2X more by following the market as a buy and hold investor. You may say, "that’s all history now, what do I do today?" My reply; if you are 10-15 years to retirement, keep ¾ of your money in the market, and ¼ in the 7% plan. If you are older and closer to retirement, keep less with Mr. Market, and more in the safer 7% plan. With the recent stock and credit market turmoil, you should look at your money allocations to determine your risks as you inch closer to retirement.

If you can't eat or sleep well, you probably need to consider changes. Call me and I can help you with that.

Barry Unterbrink, C.R.P.C.
(954) 719-1151
* source Ibbotson & Associates SBBI yearbook

Options for Your Investing Benefit, part 2

The last blog post we discussed using exchange traded options to reduce your investment costs. View the last post for the skinny on that. Specifically, we sold Bank of America January 20 call options, receiving $1,200 for our efforts, reducing our cost from $16 to $14.80. This post, I will switch and explain the role of 'Put" options to complement your stock investing.

Put options allow the owner of the options to sell shares of stock at a preset price. We will follow the prior example using Bank of America (BAC) stock. Today, BAC is at about $15.15 a share. A buyer of the shares in recent weeks may have lead to some sleepless nights; the share price is very volatile - touching $19 about three weeks ago. Our assumption, like before is that you are bullish longer term on the prospects for BAC. But...you wish to protect your position against uncertainly and a potential loss should the stock fall to $14-$13-$12 or below.

Stated above, owning put options will protect you from big losses. While we were happier campers at $17, we'll play and await our price target of $20 next year. The put options would allow you to sell your 1,000 shares of BAC at the strike price, $15, $14, etc. up through the options expiration, January 15th, 2010. The price you will pay for the option depends on the protection you seek. Today the $15 put option would cost you $1.30 ($1,300 to cover 1,000 shares). The $14 option cost is $900. The option you buy will provide a floor at which you cannot lose money beyond- $14 or $15 in this example. Notice that in this transaction you are the buyer of the option; you were the seller of the call options when you originally bought your shares at $16. So now you pay the $900 to buy protection. You took in $1,200 when you sold, and now pay $900; so you are about $300 ahead in option income. Let's look at numbers again... it's critical to understand this.

You bought 1,000 BAC at $16.00 = $16,000
You Sold 10 Jan. 20 Calls at $1.20 (collect $1,200)
Your cost of 1,000 BAC shares = $14,800
You Buy 10 Jan 14 Puts @ $0.90 (pay $900)
Your adjusted cost of your 1,000 BAC shares is now $15,700

This changes your profit picture a bit from last time, since BAC was $17.00 then. How? Your cost of the shares, at $15.70 per share is above the current price of $15.15. However, with stock options, you can always adjust your strategy on the fly. Follow me. You now have 20 options outstanding in your account. First, you sold someone the right to buy your shares at $20 (the January calls), and now you bought Jan. $14 Puts enabling you to sell your shares at $14 anytime until the Jan. 15 expiration date. You are protected on both ends now; you can bail out at $14 if things get really ugly, limiting your loss to $1.70 per share ($15.70-$14.00), or you can hope the shares rise back toward $20 and sell them along the way. If they rise above $20, the owner of the call options you sold will buy them from you at $20.

There's one more component to think of here. The 10 call options you sold for $1,200; they're worth just $170 now because BAC fell in price and the likelihood that it will rise to $20 in the next 10 weeks is less likely. You could close out this obligation by buying these options back for $170. Then, you could sell other call options and collect some more income - perhaps the Feb. or May 2010 series.

Takeaway on this: Options can enhance your income and protect your stock profits, but do limit your profits (the trade off) on the upside. They do require some extra work and babysitting of your portfolio also.

A slogan on stock market and investing emotions comes to mind: "Bulls make money, Bears lose money, and Pigs get slaughtered". Perhaps an options strategy will allow you to manage your stock risks better, and avoid the pig pen!

Barry Unterbrink
Chartered Retirement Planning Counselor