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There is an old story — an apocryphal tale of the undead reanimated — a legend passed down from stock broker to stock broker, a mystery arisen out of thin air ages ago and an ocean away from Wall Street.
Each year at Halloween, they say, something unusual begins to happen to stock markets around the globe. Like so many zombies clawing from their summertime graves, equities come screaming back to life before decaying again in the spring.
Some scoff at this story as mere smoke and mirrors, a funhouse illusion.
Others swear it is real.
They call it “the Halloween strategy.”
Spooky beginnings: Sell in May and go away
The Halloween strategy supposes a yearly cycle where stock returns are highest from November to April and flatten from May to August. The idea is that savvy investors put their money in stocks during high-return months, then move to safer investments like treasury bonds during low-return months.
The Halloween strategy originated in the City of London, where in the late-16th century the predecessor to the modern stock exchange was born. For decades, the strategy had nothing to do with spooky season, at least in name.
By the 20th century, and possibly much longer ago than that, the strategy came to be encapsulated within a simple maxim. In one of the first modern references, an unnamed “special correspondent” for The Scotsman newspaper in Edinburgh wrote in May 1938: “Many recall the old adage of the Stock Exchange ‘sell in May and go away,’ but there is something more than a normal summer holiday feeling in markets now.”
The phrase appeared again from same anonymous special correspondent — or perhaps from a new author possessing the byline — in The Scotsman in April 1943:
“Experience in the last two years indicates that Stock Exchange business has diminished during the summer months although the holiday problem is far less acute than in days before the war.”
The maxim gained strength post-war. Newspapers in the United Kingdom used “sell in May and go away” more and more through the 1950s and 1960s. The old adage’s first appearance across the Atlantic may have been a June 1977 Wall Street Journal article about — what else? — the British stock market. By the late 1980s, the strategy seems to have spread to investors worldwide.
“Setsubun tenjo, higan zoko is the Japanese equivalent of, ‘Sell in May and go away,’” financial journalist Christopher Fildes wrote in British weekly The Spectator in June 1989. “Call up your broker and impress him with this information.”
“Sell in May and go away,” a simple phrase with a simple meaning, underwent a sudden metamorphosis in a 1990 bestselling investment strategy book by money manager Michael O’Higgins and financial writer John Downes. They called it the Halloween indicator, “so named because it would have you in the stock market starting October 31 and through April 30 and out of the market for the other half of the year.”
Lest one think the Halloween strategy has since been relegated to some sunken place, Al Root, a former industrial strategist at investment bank Baird, laid out its current relevance for Barron’s earlier this month:
“From January through April, the Dow Jones Industrial Average rose 14%, excluding dividends. From May through September, the Dow rose about 1.2%. The S&P 500 rose 17.5% from January through April, and edged up just 1% between May and September.”
But one year of data does not a trend make.
It’s all in your head — or is it?
Financial manager Sven Bouman and Tilburg University professor of finance Ben Jacobsen ventured one of the first comprehensive academic inquiries into the Halloween strategy in their 2002 paper, “The Halloween Indicator, ‘Sell in May and Go Away’: Another Puzzle,” published in the American Economic Review. They analyzed data from 1970 to 1998 from major stock indices and indices on the MSCI Emerging Markets Index in 37 countries in Europe, North America, Asia, Africa and Australia.
Bouman and Jacobsen found returns were largest across years from November to April, with returns from May to October at about zero, and sometimes negative. Gains were similar across years in October and September, indicating that the clean-slash start date for the Halloween strategy could be a bit messy. They were surprised to find “the Sell in May effect is present in 36 of the 37 countries in our sample.”
The effect was strong in European countries, “and also proves to be robust over time,” they write. “Sample evidence shows that in a number of countries it has been noticeable for a very long time, and in the U.K. stock market, for instance, we have found evidence of a Sell in May effect as far back as 1694.”
An ancient spectre, to be sure — and apparently still a quite real one.
Skeptics, true to their nature, remained unconvinced. Had Bouman and Jacobsen really confirmed that this virtually risk-free strategy for making money was something more than ephemeral market lore?
Finance researchers Edwin Maberly and Raylene Pierce were among the first to push back in a 2004 commentary in Econ Journal Watch. They argued that Bouman and Jacobsen’s results were driven by two outliers: the October 1987 stock market crash known as Black Monday, and the August 1998 collapse of the hedge fund Long-Term Capital Management, which nearly led to a global financial meltdown.
Economists Brian Lucey and Shelly Zhao took up the mantle and retested the Halloween strategy in their 2008 paper, “Halloween or January? Yet Another Puzzle” in the International Review of Financial Analysis. They only looked at U.S. data, but over a longer period — from 1926 to 2002. Notably, their data covered individual stocks on U.S. markets, not just overall market performance.
Average returns were indeed better during winter months than summer months, they found. But they attributed those gains to the so-called “January effect,” a hypothesis that says investors sell their holdings in December for end-of-year tax purposes and then rebuy stock in the early days of January, bumping up market values. As far as investing in American stocks is concerned, the Halloween strategy is no better than buying and holding stocks for a long time, Lucey and Zhao found. They conclude that proof of a Halloween strategy “is weak, at best, in the U.S. context.”
Maberly, Pierce, Lucey and Zhao were not the only ones unafraid to peer into the depths of the Halloween strategy to see what lay beneath. Finance professors Charles Jones of Columbia University and Leonard Lundstrum of Northern Illinois University were similarly skeptical in “Is ‘Sell in May and Go Away’ a Valid Strategy for U.S. Equity Allocation?” from The Journal of Wealth Management. They analyzed compounded monthly returns from 1976 to 1998 from an investment fund tied to the performance of the S&P 500, a major U.S. stock index. Compounded returns account for investment gains and losses over time.
Jones and Lundstrum found that timing matters a great deal when it comes to the Halloween strategy. They write that, “success is heavily dependent upon the frequency, and extent, of bear markets. When such severe market declines do not occur, such as during the 1980s and 1990s, ‘sell in May’ is not a superior strategy.”
It appeared academia had chopped the Halloween strategy into little bits.
And yet, somehow, it lived.
In 2010, Missouri State finance professor H. Douglas Witte commented on Maberly and Pierce’s comment in Econ Journal Watch. Witte contended that outliers beyond the October 1987 and August 1998 crashes indicated the Halloween strategy for U.S. indices persisted in spite of, not because of, those outliers.
Using the same timeframe and data as Lucey and Zhao, Witte’s analysis indicates “statistical significance of a Halloween effect at levels similar to those originally reported in Bouman and Jacobsen.” He finds “the four biggest outliers aside from October 1987 and August 1998 all work against finding a Halloween effect. The effect of these additional outliers is, then, to obscure, rather than to drive, the Halloween effect.”
Yet more research would rise to bolster the Halloween strategy. In one 2013 paper from the Financial Analysts Journal, University of Miami finance professor Sandro C. Andrade and his co-authors confirm that “equity exposure starting in May and levering it up starting in November persists as a profitable market-timing strategy.”
Then, this twist from a 2017 paper in the Journal of Accounting and Finance by Fort Hays State University management professor Robert Lloyd and his co-authors, analyzing market returns from 2007 to 2015 for 35 of Bouman and Jacobsen’s original countries:
“A positive feedback between investors’ belief and behavior causes the market to underperform in the summer and recover in the winter, resulting in a self-fulfilling prophecy.”
A strategy entombed decades, perhaps centuries ago within a simple maxim had turned into a prophecy come true by virtue of investors’ very belief in it, according to this paper.
The back-and-forth continues, like a saw tearing through intellectual bone and gristle. One recent working paper maintains that the Halloween strategy works in the U.S. Other research from the International Review of Financial Analysis says, again, that it exists only in investors’ minds.
Finance professor Steven Ferraro and accounting professor Richard Powell offer this clear-minded assessment of the Halloween strategy in Pepperdine University’s Graziado Business Review, which may help keep heads from spinning fully around:
“To make this trading rule produce profits requires the discipline and diligence to rebalance a portfolio every six months for many years. But even then, there is no guarantee of favorable outcomes.”
For most Americans, the Halloween strategy remains an invisible force haunting someone else’s dreams.
But to be safe, better not say it five times out loud into a mirror.
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