Friday, May 02, 2014

Seasonal Saw

Every few years I write a post about the stock market adage “sell in May and go away.”  This is one of the so-called calendar effects in which it is possible to realize higher gains by selling stocks in May and buying back into the stock market in November each year.  I have followed this rule more or less for years, as I realize that the seasonal cycle of school, sports and vacation impacts the attention of finance professionals as well as individual investors.  No one wants to worry about a significant new position in a stock while packing up the kids and the dog for an extended stay at the beach.  Compound that thinking among thousands and it is not hard to see the impact on trading volumes and therefore on asset prices.

Yet for some investors this year it might seem tough to give up stock market positions that they have worked so hard to reestablish after the stock market rout we experienced just a few short years ago.

For  the reluctant, I will mention a nuance that I have added to this practice of shedding long positions in anticipation of tepid equity results in the during summer and early fall months.  While not mentioned frequently among technical analysts, I use a technical indicator called the Commodity Channel Index (CCI) to find the best selling point in May and then the best reentry points in November. 

The Commodity Channel Index was developed by a smart guy named Donald Lambert back in the early 1980s when new computing power began making it possible for individuals to inexpensively analyze large amounts of data.  Donald was after cyclical trends in commodities.  However, I find that the way the index measures the current price level relative to an average price works just fine for equity securities as well.  Without going into the intricacies of the CCI calculation, the index can show unusual strength or weakness and serve as a great bull or bear case filter.

Admittedly, the CCI may not be enough as I have observed occasions when the CCI signaled a stock was oversold (the CCI is under 100)  only to find the stock continued to drop to even lower levels.  Likewise I have seen the CCI signal an overbought stock (the CCI is over 100) that just seemed to keep on going higher.  To help eliminate these ‘premature’ signals to buy (the stock is oversold) or sell (the stock is overbought), I check another technical indicator called the MACD (Moving Average Convergence Divergence) line.  I have found that continued divergence signals the trend is not finished and it is likely that whatever signal the CCI is providing is about to become even more pronounced.

This month I will be looking for opportunities to sell when stocks are overbought as indicated by the CCI and have run out of steam according to the MACD.  Next November I will be back in the stock market again, looking for oversold conditions.

See you at the beach!

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.


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