Seasonality refers to the time when stocks, sectors, indexes, and markets are influenced by recurring tendencies. To be reliable these historical patterns must be consistent and noticeable over an extended period. Whether these historical seasonal tendencies will repeat this year is not as important as recognizing that these trends can occur.
Popular seasonality trends include the often mentioned "sell in May and go away", where summer doldrums lead to lackluster returns during May to October. Other equally popular seasonality trends are the Santa Claus rally ahead of the holidays and the January Effect resulting in small-cap out performances.
Many investors take advantage of these seasonality trends to buy and sell. In prevailing uptrends, they use seasonal low points to buy and average into long positions. In primary downtrends, they tend to utilize seasonal high points to sell and scale out of losers.
Investors may want to ignore the "Sell and go Away" and consider the "Stay and Play" this summer.
Rather than moving into cash to avoid the infamous seasonal weakness period from May Day and Halloween, there may be pockets of opportunities during the ensuing months.
How can investors and traders best exploit these seasonal tendencies?
Each year, the stock market tends to repeat with specific seasonal trends. These seasonal trends affect individual stocks and can influence the directions of stock market indexes, at least from a near-to-medium term perspective.
When investors understand how these trends work, they can make informed trading and investment decisions. Although seasonality trends can increase the probability of the outcome, it is not guaranteed and should not be used alone. Investors should complement seasonality studies with other technical disciplines (i.e., trend line, moving averages, and other technical indicators), and never trade against the primary and prevailing trends.
So, what do the seasonality studies say about the months ahead?
In the past 20-years, various stock market indexes show distinct seasonality tendencies. July is generally positive for stocks, producing gains for many of the key stock market indexes.
For instance, in US equities, the benchmark large-cap S&P 500 Index (SPX) is up 68% of the time, with average gains of 1.3% over the past 20-years. The blue-chip Dow Jones Industrial Average (INDU) has closed higher 74% of the time with average gains of 1.5%. The broad-based listed stocks or the NYSE Composite Index (NYA) also closed higher 68% of the time with gains of 1.1% for the month.
The predominately growth-related Nasdaq Composite Index (COMPQ) closed higher 68% of the time with average gains of 1.9%. The mega-cap technology-laden Nasdaq 100 Index (NDX) recorded gains 79% of the time with average gains of 2.5%.
The Mid-cap 400 Index (MID) also recorded a higher close 58% of the time, with average gains of 0.6%. Small-cap 600 Index (SML) also closed higher than it opened 58% of the time, with average gains of 0.6%. Micro-cap markets or the iShares Microcap ETF (IWC) participated 40% of the time with average gains of 0.5%.
Within international stocks, the MSCI EAFE Index (MSEAFE) closed higher 63% of the time with average gains of 1.3% for July over the past 20-years. MSCI Emerging Markets Index (MSEMF) fared better than its international counterparts closing the month higher 68% of the time with average gains of 2.2%.
A quick review of the July seasonality trends spanning the past 20-years shows a decisive tilt in favor of the Nasdaq OTC markets (COMPQ +1.9% and NDX +2.5%) and the international markets, MSEAFE (+1.3%) and MSEMF (+2.2%). The large-cap SPX Index (SPX +1.3%) and Dow Jones Industrial (INDU +1.5%) also perform admirably during July. However, Mid-cap (MID +0.6%), Small-cap (SML +0.6%), Micro-cap (IWC +0.5) lagged their US equity peers.
S&P 500 sectors during the July timeframe also reveal average gains for 10 out of the 11 S&P 500 sectors over the past 20-years. As can be expected, the outperformers were Technology and Telecom areas. The average July returns ranked by the S&P 500 sectors are XLC (3.4% gains), XLRE (3.0%), XLK (1.9%), XLF (1.6%), XLP (1.5%), XLV (1.5%), XLI (1.4%), XLB (1.4%), XLY (1.3%), XLU (0.2%), and XLE (-0.5%).
In summary, July is a seasonally strong period for stock market indexes. It is most attractive for the NASDAQ markets and international markets. Although still positive, the S&P 500 Index, NYSE Composite, and Dow Jones Industrial Average were in-line performers. The Mid-cap, Small-cap, and Micro-cap markets underperformed their equity peers. From the S&P 500 sector perspective, the best July performances came from Telecom (XLC +3.4%) and Technology (XLK +1.9%). Surprisingly, Real Estate (XLRE +3.0%) showed stellar performance for July. The only S&P sector in negative territory is Energy (XLE -0.5%).
With the stock market trading at or nearing historic all-time highs, the question then becomes – will the positive historical July seasonality trend repeat this year? And will the Stay and Play trend gain traction, igniting the next stock market rally?