Seasonal patterns suggest to “sell in May, and go away”. This year, as always, I am selling a few positions in light of that discipline. I’ve also made an observation surrounding the U.S. Federal Reserve’s quantitative easing (QE) programs that may provide a bit more evidence to the “sell in May” strategy. As a background, there have been 3 distinct QE programs since the recession began in 2008. They were:
• QE1 (November 2008 to June 2010),
• QE2 (November 2010 to June 2011)
• Operation Twist (October 2011 to June 2012).
The important observation to note is that the beginning of each stimulus program inspired a market rally, and the end of each stimulus program has resulted in a choppy market or a selloff. The Fed appears to be using stock market weakness after the end of each stimulus program as an excuse to introduce another QE program! Many market observers, myself included, strongly believe that the Fed will stimulate again in 2012. Thus, if you believe that the market patterns will repeat themselves, you might expect a choppy market for the summer. If the patterns play out as in the prior QE cycles, the summer choppy period would be followed by a bull market rally beginning any time from late August and on as the market anticipates a new “QE” program. Thus, the usual seasonal investing strategy of buying stocks back in November may be pulled back earlier this year – I’ll play that one by ear. Notice how the stock market rally ended and then went sideways (or down) at the end of the QE programs in June 2010, 2011—as indicated on the S&P 500 chart. This could repeat itself in 2012. BNN had me on last week to address my findings surrounding this pattern.
Below, you will see a chart of the Dow Industrials (INDU- top line) vs. the Dow Transports (TRAN). Note that the transportation index declined last week, while the industrials rallied. Perhaps its too early to call this a true “non-confirmation” of the indices, but it bears watching as a potential sign for caution. With further debt downgrades and rumblings coming out of Europe, the end of the “best six months” seasonal period, the completion of Operation Twist (QE3) in June and earnings season winding down—one might want to ask what might drive markets higher in the coming months. Further divergence between the Dow indices could signal trouble ahead.