Market Insider

Can Stocks Shake 'Sell in May' Summertime Curse?

Stocks are breaking a recent pattern, shaking off their summertime blues and recapturing four-year highs, and there are even reasons why those gains could continue for now.

Yet, the market is still a sea of discontent.

Many investors are skepticaland are waiting for the market to get crushed in September, either from sour news out of Europe, potential disappointment from the Fed (What's This?), or just the political noise that comes with the election and Washington’s (What's This?).

They are also watching the escalating rhetoric on Iran’s nuclear intentions. (Read More: Investors Still in Hiding)

In an eerie pattern, the S&P 500 has, in each of the past three years, hit highs in late April or early May then sold off into the summer in a perfect "sell in May" pattern. In 2010, stocks recovered the summer’s losses by November, and last year it wasn’t until February 2012. But this year, stocks hit the low ground in June and have now quietly climbed back to the four-year high the market was flirting with in April.

On Tuesday the S&P 500 broke above 1,422, its April high, for the first time. That pushed it into a level last seen in May 2008. But the market backed off, and now traders are again watching the 1422 level as a point of resistance.

“I think the market, left to its own, wants to move higher,” said Jack Ablin, CIO with Harris Private Bank. “Fundamentally, earnings-wise, it’s very supportive of 1,450 (on the S&P). It’s really obviously these headlines that keep bombarding ups and knocking us down. I think the last three weeks is a perfect example of the neutral tendency of the markets.”

Ablin said the lack of headlines from Europe has been a plus. European Central Bank President Mario Draghi in late July promised the ECB would do whatever is needed to support the euro. Despite the lack of detail, that comment supported the market as Europe went relatively quiet for the rest of the summer. (Read More: Secret to Making Money in Stocks This Year)

While investors find plenty to hate about the market rally, Maxim Group technical analyst Paul LaRosa says there are some signs the rally has legs for the time being. But in the very short term, it will have to be confirmed by a close above 1,422, and then by gains in other indexes. He pointed to the Russell 2000which is just joining the rally.

“The breadth of the market is in good shape. I’m looking at charts of widely held stocks, like GE , Citigroup and Bank of America , all showing good technical bases,” LaRosa said. “They’re forming a good, intermediate bullish base and now they’re all starting to break out from that.” (GE is the minority shareholder of NBCUniversal.)

Both Citigroup and Bank of America were trading nearly double their average daily volume Wednesday afternoon.

“This is a key juncture we’re at in the market here. We’re going to determine whether this is the tip of the iceberg, and we’re going much higher,” he said. “Or we’ll see the market won’t confirm.” At that point, a selloff would bring a buying opportunity.

(Watch: Market Technician Sees These Positive Signs)

LaRosa said to confirm the move the Dow needs to recapture 13,338, and the Nasdaq needs to return to 3,134. He said the Russell needs to close above 820, move on to 847, and then ultimately regain 868, its high of last year.

“This is taking people by surprise, which is what a good intermediate term rally does. You start to see more sectors come out on good, bullish bases. We’re seeing that in financials. We’re seeing in some of the commodity-related issues. Energy names are looking pretty good here,” LaRosa said. “I think some of the money sitting on the sidelines is starting to come in.”

Bespoke Investment Group points out that once stocks regain their highs, after a bull market correction (What's This?), the market typically draws in more buyers and moves higher. In a study that dated back to 1928, Bespoke noted that the current bull market, at 1,261 days, is the ninth longest and the ninth strongest since then with a 110 percent gain.

In all the bull market corrections since then, the S&P 500 typically declined between 10 and 20 percent. This year’s decline was 9.9 percent, or 10.9 percent on an intra-day basis. Bespoke said, in its note, there were 19 prior bull market corrections, lasting between one month and one year, and the time after that to achieve a new high was an average 98 days. So the current rally of 81 days has been relatively quick.

In the month following the new highs, the market on average gains 84 percent of the time with an average gain of 2.1 percent. The S&P over the next three months gains 65 percent of the time, for an average 1.3 percent gain. But when looking six months out, Bespoke found that stocks are higher 84 percent of the time, for an average return of 5.5 percent.

“While the market may look overbought here, historically, investors have been very willing to jump back in and drive the market even higher once they’ve been assured that the correction is over and the bull market has resumed,” Bespoke analysts wrote.

Ablin said he’s enjoying the market’s gains for now, but he’ll be quick to reduce exposure if it reaches his forecast. “Certainly, we’re still fixated on 1450, and if we can get there, we won’t be shy about declaring victory and begin to take money off the table,” he said.

Ablin said the election could create noise, but he thinks the market is assuming a victory by President Obama. “There isn’t much uncertainty around it,” he said. “His chance of retaining his seat is moving in lockstep with the market. The last time around he was the biggest stock market bear. His chances improved every time the market went down. This time around, President Obama is the biggest stock market bull.”

LaRosa reads things differently, and he says the election does not appear to be a certainty yet. “There are two main things that could propel the market higher—that the Republicans get in and Europe doesn’t collapse,” he said. LaRosa said he does see more chance for a melt-up, than not. (Read More: CNBC's Full Election Coverage)

“There are always curve balls out there, and there are always headlines,” said Ablin. ”I don’t think Europe is any more resolved than it was last year or the year before. Part of it is we’ve just become insulated, kind of accustomed to it.”

Ablin said Congress is more likely than not to take action and avoid the fiscal cliff, the dual expiration of Bush era tax cuts Dec. 31 and the start of automatic budget cuts Jan. 1. “What motivates Washington is job security and nobody wants to be blamed for causing a recession,” he said. (Read More:"How Much Will It Cost You If Bush Tax Cuts End? A Lot")

Follow Patti Domm on Twitter: @pattidomm

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