Published in Moneytalk (Belgium) on 12 May 2012
It is May, and that means investors’ thoughts automatically turn to the old adage of ‘sell in May and go away’. I’ve always had some problems accepting this advice because stock markets don’t follow a deterministic pattern. And is this ‘investor’s wisdom’ actually borne out by the figures? The following chart shows average monthly price movements (excluding dividends, therefore) on the S&P index over the past 10, 20, 30 and 40 years, based on the Robert Shiller database.
One thing that stands out is that monthly returns have fluctuated more over the past ten years than previously, whereas the patterns in the averages over the past 20, 30 and 40 years are far more in line with each other. The most recent period, therefore, has been highly atypical. There has also been some value in the ‘sell in May’ adage in the past ten years as the returns turned out negative. Although the picture over a longer period is less pronounced, returns during the summer months have nevertheless been lower than those at other times of the year. In other words, there is certainly a seasonal effect. It is not, however, that May in particular is a difficult month, but rather the whole period from June to the end of October. Literally deciding to sell your investments at the start of May would seem somewhat premature, therefore. Interestingly enough, I heard an analyst on CNBC say last week that this year the ‘sell in May’ advice would not apply until June. This immediately focused attention on the fact that ‘sell in May’ is not a law in itself, and that we need therefore to look at possible catalysts for price corrections. Memories of the past two years are still fresh, with regular fears of a new recession in the USA and another new phase in the euro crisis. Given developments in recent days in Spain and Greece, the situation in the eurozone – not surprisingly – is currently the prime candidate for putting investors’ nerves to the test. In the case of Spain I expect the storm created by the government’s support for the banks to blow over, if only because pressure from Europe, to name just one example, means the government is keen to achieve progress in this area. And achieving this progress is vital if international investors are to be persuaded to trust Spain again. Greece, however, is a source of greater anxiety, with the prospect of new elections (which would be held on 17 June and would de facto be a referendum on membership of the euro) against a background of austerity fatigue and the state’s empty coffers. That means at least another four weeks of uncertainty ahead, and we can only hope that, second time around, the result will allow the country to form a government without too much delay.
A second area investors are focusing on is the USA. There, the picture is clearly an improvement on last year, with no talk of a ‘double dip’. Economic growth is reasonable, while housing market activity seems (finally) to have turned a corner and to be moving in the right direction. Corporate earnings, too, are rising, while margins are good, and the Federal Reserve is continuing to operate very flexible policies and is on standby for QE3 if the stormy weather returns. The big question, however, will come after the Presidential elections: in other words, is the US finally going to do something about its budget deficit without choking off growth?
A third ‘hot topic’ is China, where growth in industrial production is slowing, but where inflation, too, is falling and so creating scope for more a flexible monetary policy via the banks’ reserve requirements. The most likely scenario for the Chinese economy would seem to be a soft landing.
To conclude, the financial markets’ summer is likely to be dominated by developments in Europe and, therefore, by a great deal of uncertainty. Although much of this uncertainty has already been discounted in prices (just look at the price/earnings ratios or dividend yields, which are around three times as high as German ten-year yields!), investors are still waiting for the ‘all clear’ signal. And that means we are set to continue in the ‘risk on/risk off’ environment, with rapid switching between equities and safer assets for quite some time to come.
William De Vijlder
Chief Investment Officer, Strategy & Partners
BNP Paribas Investment Partners
How much should investors swim against the tide?
Despite all the negative comments at the end of 2011, the financial markets have surprised investors positively so far this year. There is a strong temptation to argue that investors should always go against the prevailing mood: buy when all the news is bad, and sell when everyone is optimistic. Reality is of course more complex, but it is clear that investors have to judge a theme’s “eat by date”: when bad news is gripping the markets, they should watch out for the ray of sunshine piercing the clouds, because this may be the prelude to a brighter period; and conversely, when the sky is blue, they should try to find out where the first clouds might come from.
How much should investors swim against the tide, as it were? Recent reports suggest that the glass is at least half-full for investors. The US labour market is finally improving; confidence indicators in Europe seem to be stabilising; the Chinese authorities have relaxed the capital reserve requirements for banks; the income tax cut introduced under the Bush administration has been extended; an agreement has been reached on Greece. When I saw the headline on the front page of last Saturday’s Financial Times (“S&P gains hint at budding recovery”), I couldn’t help but feel that it’s time to start looking for what could eventually turn the current positive sentiment around. Five possible factors spring to mind. One, the upswing in the equity markets. The Eurostoxx-50 has gained around 10% since the year start, and the S&P-500 around 8%. And several emerging country share indices are performing much better than that. Many investors have already gained more from their equity investments than they expected for the whole year, so the longer this upswing continues, the greater the temptation to secure part of the profit. Two, the economic figures. In the United States, these – including the labour market – are clearly heading in the right direction, and on top of that the construction sector seems to be recovering as well. In Europe the confidence indicators have turned out better than expected. The better the results, the more difficult it becomes to surprise economists positively, and disappointing data would of course undermine investor sentiment. Three, the elections in Greece. Due to be held in April, they are in danger of being completely dominated by the theme of the country’s economic and financial situation and the policies pursued to deal with it. Four, a rise in the oil price. In dollar terms Brent oil has reached the 120 mark, and in euro terms it’s trading at the 2008 peak levels. This of course has to do with the geopolitical risks (Iran), a factor which is not likely to fade into the background any time soon. A further hike in the oil price, for political reasons or for instance also in anticipation of the world economy performing slightly better in the second half year, could eventually become a serious problem, for the central banks (fueling inflation fears) and for the growth outlook. Five, a renewed focus on the major structural challenges, both in Europe and the United States, with the upshot that growth forecasts remain modest by historical standards.
The point for investors is to assess when one or more of these five factors gain in importance. For now the surfeit of liquidities dominates everything, and it is these which are supporting share prices indirectly; but let’s not forget about the “eat by date” argument.
William De Vijlder
Chief Investment Officer, Strategy & Partners
BNP Paribas Investment Partners
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