Traders fear a major case of déjà vu this spring, where investors pocket their profits, and really do go away.
The “sell in May” phenomena occurred in the past two years, after stocks peaked in April.
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However, some analysts expect a less severe sell off this year and mostly agree a pullback is overdue. Last year, the S&P 500 lost 21.6 percent between May 2 and Oct. 4.
“Everything suggests it,” said Binky Chadha, Deutsche Bank chief global strategist.
“Pull backs are normal, and in the sense the length of this really smooth ride up is unusual. I think there’s been very limited participation in this rally. So, it’s very likely the pull backs will get bought. On the basis of history, we’re due for a pull back,” he said.
LPL Financial chief market strategist Jeffrey Kleintop says, in a note, that the sell off this year could be more shallow because of two positives that weren’t there last year. One is that central banks around the world are now cutting rather than hiking rates, and the second is that housing is showing signs of life.
The negatives include concerns about China slowing down, a European recession, election uncertainty, the end of the Fed’s “operation twist” program.
Kleintop said there are ten things he’s watching to see if a spring sell off is in the offing.
The Fed tops his list. In the past two years, the Fed’s quantitative easing programs came to an end in spring or summer and stocks sold off until the next program was announced. Last’ year’s “operation twist” was announced in September, and stocks began to take off on their current run in October. That program expires in June, and traders are watching the Fed’s April meeting for a reading on whether the program will end, be extended or replaced with something else.
Also on his list are economic surprises, which if you watch the Citigroup economic surprise index it appears it may be retreating from a peak in February. Consumer confidence is another indicator, and its close to highs now but will be watched to see if it turns lower.
Earnings revisions will also matter. In the first quarter of 2010 and 2011, earnings estimates moved higher as earnings reports looked better, but in the second half guidance disappointed as the number of upward revisions declined. This year, he says the same may occur.
The yield curve is another guide. The spread between the 2-year and 10-year Treasury , currently about 1.80, could indicate concern about he economy if it continues to narrow, or flatten.
A big flash point for stocks has been oil prices. Kleintop notes that’s oil in 2010 and 2011 was up $15 to $20 a barrel from the start of February, two months before the market began to sell off. This year, oil was already high and it is up only about $10 since the beginning of February., but a further surge would be worrisome.
Kleintop also watches LPL’s financial current conditions index, which peaked around 240 to 250 in April of the past two years. This year it reached 249 already and has fallen to 232.
The VIX, the CBOE’s volatility index, is another widely watched signal. On Wednesday, it was up almost 10 percent, but it is still at very low levels around 17. Kleintop said the low reading in the VIX could be suggesting that investors are complacent and could be surprised by a negative event.
Weekly jobless claims, reported Thursday morning, are another important indicator for the stock market. Viewed as one of the most consistent measures of employment activity, weekly claims have been holding at the 350,000 level, but in early 2010 and 2011, they stopped improving in April.
With rising gasoline prices, inflationexpectations is another concern. The University of Michigan survey showed a rise in inflation expectations in March and April in 2010 and 2011. This year inflation expectations also jumped, reaching 4 percent in March, Kleintop noted.
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