2 Reasons Not to Sell the Dow in May

It's time for the annual sell-in-May strategy, but should you follow it?

Dan Caplinger
Dan Caplinger
Apr 28, 2014 at 12:30PM

The Dow Jones Industrials (DJINDICES:^DJI) had climbed 66 by early afternoon trading Monday, bouncing back from geopolitical and macroeconomic fears late last week as favorable earnings news helped bolster confidence once more. Those with a somewhat longer-term perspective on the Dow Jones Industrials will note that the end of April is approaching, and so the "sell-in-May" strategy will get its annual rush of attention. Still, a closer look at the strategy reveals a couple reasons why you shouldn't simply rely on a knee-jerk seasonal indicator like sell in May, especially with respect to Dow highfliers Boeing (NYSE:BA) and Nike (NYSE:NKE).

Source: Wikimedia Commons, courtesy HH1.

Don't mess with success?
Simple strategies are always compelling for investors who are intimidated by the market. The sell-in-May strategy couldn't be easier: invest in stocks from the beginning of November through the end of April, and then sell off your stock exposure at the beginning of May through the end of October.

What's even more compelling is when simple strategies actually work. The sell-in-May strategy has shown good performance in recent years. For instance, as of today, the Dow has risen almost 6% since the beginning of November, just slightly outpacing its roughly 5% gain from May to October 2013. Last year's 13% gain during the November-to-April period was a lot better than the 1% drop during the summer and early fall months of 2012, and similar strength in the previous two years has given the sell-in-May strategy a much more loyal following. With the market near all-time highs, moreover, even investors who normally have a longer-term mindset are wondering if it makes sense to take money off the table now.

Source: Boeing.

Why you shouldn't do it
There are a couple of reasons to resist the allure of sell in May. The first is that no matter whether you win or lose with the strategy, you'll greatly enhance your overall investment-related costs, including both taxes and trading expenses. Buying and selling every six months makes any profits you earn in a regular taxable brokerage account subject to short-term capital gains tax rates that are equal to your ordinary income-tax bracket and run as high as 39.6%. In addition, those gains are subject to the net investment income surtax for high-income taxpayers, which can add another 3.8% tax on top of your ordinary income tax. By contrast, long-term buy-and-hold strategies don't incur any capital gains taxes until you sell, and when you do, preferential long-term capital gains rates apply if you've held your investments longer than one year. In addition, commission costs from buying and selling investments more frequently can hit you even in an IRA or other tax-favored account.

Moreover, at the individual stock level, there's little evidence that the sell-in-May strategy consistently works. Often you can end up missing out on big share-price moves. Boeing, for instance, jumped 44% from a year ago through October 2013, as the aircraft manufacturer managed to rebound from concerns about its 787 Dreamliner and continue reaping huge orders. Yet since the beginning of November, Boeing has actually fallen slightly, as investors remain anxious about the Dow component's ability to deliver on its massive backlog of aircraft orders. Similarly, Nike jumped 20% during the sell-in-May portion of the year in 2013, but it has retreated more than 3% since November as investors reassess its ability to keep growing at its former breakneck pace.

If you're nervous about the stock market's lofty levels, then looking at reducing your exposure somewhat via rebalancing or other trimming methods is always smart, no matter what time of year it is. But counting on in-or-out strategies to deliver consistent added returns even after factoring in higher costs is a dangerous way to handle your portfolio.