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Stock Markets: Sell Before May and Go Away?

Tuesday, 24 Apr 2012 | 12:29 AM ET

An old superstition says stock market investors should sell in May and go away, as returns in the period between May and September are typically weak. So is Monday's sharp drop in the main indexes a sign that this year, the selling begins even before May?

John Block | Botanica | Getty Images

Not really, according to some analysts, who pointed to various reasons for which investors who brave the superstition and remain in markets over the summer may have a good season.

Stocks fell heavily on Monday on the back of political turmoil in the euro zone, where the Dutch government resigned after it was unable to successfully reach an agreement on austerity measures. In France, President Nicolas Sarkozy came second in the first round of elections, with the far right showing a strong rise.

Good news was missing on the economic front too. Spain's economy shrank in the first quarter, and Germany's manufacturing contracted at the fastest pace since 2009, but a European Central Bank official told CNBC that the bank would rather wait and see the effect of its two Long-Term Refinancing Operations (LTROs) before doing more to appease the markets.

Analysts at BNP Paribas have dubbed this year's month of May "Dis-May," saying it looks "particularly troublesome."

"As the effect of the LTRO liquidity infusion fades back toward a fight between lethargic politicians and over-zealous bond vigilantes, Spain is in the cross-hairs," they wrote.

"This May, in particular, looks to have a full-calendar of risks that might unsettle the European markets in the form of Moody’s debt downgrades and the second round of French elections … and the Greek elections," the BNP Paribas analysts added.

A chart showing the average performance for each month in the markets since 1970 supports the theory of seasonality in stock prices, "aligning nicely with selling during May and not buying back until the start of October," they wrote.

"Preposterous as it may be and inexplicable with a rational interpretation of fundamentals, markets do seem to exhibit some seasonality. Weak returns do seem to coincide with the summer," the BNP Paribas analysts said.

The Rally May Continue

But other market experts say that rather than marking the beginning of a correction, what is currently happening in the markets is only a consolidation after the risk-on rally between last October and February, and that stocks can still go up over the summer.

"In our strategy, we have been very bullish since the start of the year. We have trimmed positions in March but … we believe the rally will continue," Philipp Baertschi, an equity strategist at Swiss private bank Sarasin, told CNBC.com. "There's upside [potential] but it's less obvious than at the start of the year."

Baertschi said cyclical indexes like the German DAX, emerging markets or even the S&P 500 could rise by between 5 percent and 10 percent over the summer, but periphery markets in Europe are likely to suffer.

"We think there's still upside, particularly if you look at European markets we had quite a big selloff. I don't think it's really the time now to sell," he added.

Stock markets could be supported by good news from the U.S., with earnings data potentially showing better fundamentals, Mike Lenhoff, chief strategist at investment management firm Brewin Dolphin, said.

"Not only is the proportion of 'beats' at its highest level on record according to Thomson Reuters, but also first quarter earnings growth is coming in at nearly twice the pace expected at the outset of the results season," Lenhoff wrote about the earnings of the companies in the S&P 500.

Another big factor that has supported stock markets during the crisis was the policy of central banks, which have pumped liquidity in an attempt to kick-start struggling economies. Investors are still watching the major policymakers keenly to see whether more easing is on the horizon.

The Federal Open Market Committee (FOMC) meets on Wednesday and Fed Chairman Ben Bernanke will hold a press conference but analysts do not expect the Fed or Bernanke to show more readiness to ease policy further. However, some soothing noises may be forthcoming from the Fed, according to Lenhoff.

"Although no further steps to stimulate the economy are likely either, the renewed phase of turmoil in Europe and the risk of more market upheaval are likely to mean that the extended period message behind the Fed’s efforts to reflate the economy will be reinforced," he wrote.