Are You Afraid of the September Curse?

Caesar may have feared the ides of March. But investors find their scariest month at the other end of the calendar.

Although several of the most famous crashes in stock market history have occurred in October -- 1929 and 1987 are the best-known examples -- studies looking at the past 30 to 60 years have found that, on average, the Dow has its worst average performance during September. June is the only other month to show negative average returns.

Does that mean you should run out and sell all your stocks right now, before it's too late?

Seasonality and market timing
Finding a way to follow seasonal patterns mechanically and earn predictable, stable profits is the Holy Grail of investing. Yet despite all of the seasonal effects that various market analysts have discussed, nobody has come up with a risk-free way to take advantage of them -- or if they have, they're not talking about it.

Among the patterns various people have observed over the years, some are more compelling than others. The January effect, for instance, makes intuitive sense: Many people view each year as a fresh start and make changes to their portfolios early on. Another phenomenon observes that stocks tend to do lousily on Mondays. Does the idea that the market hates Mondays as much as many office workers do really surprise anyone?

On the other side of the coin, the Super Bowl effect -- that markets do better when NFC teams win -- always seemed a little suspect. And that's not even close to the wackiest indicator out there.

Sometimes they work, sometimes they don't
The problem with these patterns is that they're all based on historical observations going back decades. Many of them are well known not just to market professionals, but also to many everyday investors. If markets are at all efficient -- a point on which some would disagree -- then these effects should disappear once they're discovered.

There's evidence of exactly that. Looking at just the past few years, we see that the September effect has been conspicuously absent. Take a look:

Source: Yahoo! Finance.

Similarly, although January is often a good month for stocks, it was horrible this year -- the S&P dropped 6%, and the small-cap Russell 2000 index fell 7%.

That doesn't mean that every seasonal indicator has failed. For instance, some analysts argue that there's a seasonal cycle in energy-stock prices, as the traditionally slow summer season has often caused shares to fall. At least this year, it's hard to argue with that opinion:

Source: Yahoo! Finance. Adjusted for dividends.

Flip a coin?
You can clearly never be certain that a seasonal trend will hold true in any given year. But although you wouldn't have to be right every time to make money from such a trend, the less certain it is to happen, the harder it gets to profit from it. And as with many other market timing techniques, you have to use short-term trading to implement most seasonal strategies. That turns all of your profits into expensive short-term capital gains and greatly increases the tax cost of investing.

Simply buying and holding stocks for the long term has made many investors successful. But even if you want to go beyond that simple approach, making investment decisions based on the actual prevailing conditions in a given sector or the overall market is far preferable to putting all of your faith in backward-looking seasonal phenomena that may no longer exist. Ignoring current events puts you at a severe disadvantage to those using every piece of information they can find.

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