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For the past six weeks, investors have been riding a nice summer melt-up on the stock market. The upshot of this remarkable, and remarkably quiet, run is that it goes against the old “Sell in May and go Away” adage that has worked well in the past. We went against this trend in our April commentary with this comment;
While the ‘Sell in May’ mantra has worked for most of the past 50 years, we are not going with it this year. We continue to believe that we are in a period where stocks are the most attractive asset class and where we see the potential for substantial gains within the market. “Sell in May and go away” was good advice the last two summers. Not so this year.
Of course, after the Dow fell 6.2% in May, 2012 was looking a lot like a repeat of 2010 and 2011. But since then, it’s been mostly smooth sailing, with the Dow hovering the past few days around its high-water mark for the year. To be sure, there’s still plenty of time left for the ugly side of “sell in May” to rear its head. According to the old adage, investors should stay out of the waters until Halloween — a full two months away and through historically two of the most harrowing months of the year for investors.
The Dow Jones Industrial Average has clocked six straight weeks of gains, rising 9.7% since early June. But the gains are getting short shrift from across the market. Some market strategists say the economy remains fragile and corporate-earnings growth is waning. Technical analysts have been seizing on data they say suggests the rally can’t maintain its current momentum. Investors have shown their disdain by withdrawing money from stock mutual funds. Sluggish trading volumes and continued outflows suggest few investors are eager to hop on board. The main underpinning of the recent move, many investors say, is the belief that the Federal Reserve will announce a new round of quantitative easing to juice the economy, possibly as soon as September. Some investors also are anticipating the European Central Bank will pump money into the region’s troubled financial system.
But sentiment has improved recently from the despairs of late June and investors are looking ahead to the potential for better news. The U.S. economy is growing, Europeans seem to be making progress on the debt crisis, and China is stimulating its economy. To top it all off, stocks remain attractive at these levels: The U.S. stock market is still more than 10% below its record high, yet earnings are 7% higher than they were at that time.
In Canada, the discrepancy is even greater since our market is still almost 20% below the 2007 peak. An 18-month bear market in commodities and commodity stocks may be in the process of ending which is letting Canada’s ‘resource heavy’ stock index finally start to join the rally of other indices around the world. There has been a shift away from the ‘defensive sectors’ of the market (i.e. Utilities, Health Care and Telecom) where valuations had become extended as investors were paying hefty prices for companies which paid dividends and had more stable earnings. Since the beginning of August, we have seen a shift in that behavior where investors are now looking at taking on slightly higher levels of risk in their portfolios by adding cyclical stocks in sectors such as Technology, Industrials, Basic Materials and Energy. This has allowed the S&P/TSX Index in Canada to finally break its 200-day moving average as shown in the chart below. The past 18 months had seen Canada’s worst relative performance versus the U.S. market in over 20 years.
