Allocation Strategy

The Unfavorable Season

With all the attention on the favorable season for equities, we decided to focus on the unfavorable season today.  We asked the question, what would happen if instead of selling in May we bought in May and then sold in the Fall.  Let’s call it the stormy season strategy.

Basically, I ran the reverse of our Seasonally-Modified Buy & Hold™ strategy. I realize many investors have a hard time believing our charts showing how over time this simple strategy significantly outperformed a straight buy and hold strategy. The difference really comes down to compounding returns.

Add an additional 2-4% annualized to your returns and you will double your nest egg several times during your retirement investment time horizon. The “rule of 72” says if we divide 72 by 3%, we double our funds in 18 years (72 ÷ 3=18). In 36 years, you quadruple your funds. Hence, unbelievable charts.

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The Unbelievable Chart

 

The chart above is the end result of missing the unfavorable season using the TSP S fund or Vanguard VXF ETF that invests in the non-sp500 index companies for 18 years from 1999 to 2016.

Unfavorable Results

By focusing on the unfavorable season, we see what returns we leave on the table during the half of the year our Seasonally-Modified Buy & Hold strategy is sitting on the sidelines in a low risk fund.

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TSP S Fund’s Unfavorable Season

If you invested in the TSP S fund (non-sp500 companies) during the unfavorable season, you would have lost 46% of your funds (black line).  The blue line is the TSP S fund which tracks the non-sp500 index.  If you had sat in cash during the unfavorable season, that blue line would not have lost 46% and would have twice the 725% return.

If instead of sitting in cash, you invested in the low-risk interest bearing TSP G fund your investment would have looked like the black line in the next chart.

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TSP S fund and TSP G fund

My charts start with the small cap fund since they have greater seasonal tendencies.  If we look at the same time period with a SP500 index fund, we see how the unfavorable season does not appear so bad – at first.

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TSP C fund (SP500 index) Unfavorable Season

Minus 16% may not seem like much of a loss in the unfavorable season for the buy and hold investor, but investors missed out on another 2% annualized from missing half the year’s TSP G fund returns for a total of approximately 3% annualized – which would double your investment in 18 years as seen below.

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TSP C Fund (SP500) and TSP G fund double returns

Another reason the TSP C fund did not look as bad is because during the bubble years from 1995 until 2000 the SP500 gained excessive returns during the Summer and Fall. This is what made it a bubble.  After the bubble popped, the seasonal strategy pulled ahead and never looked back.

As far as the buy and hold investor goes, the TSP C fund (SP500) and TSP S fund (non-sp500 index) matched performance over the entire time period we looked at although not evenly.

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Relative Performance of the TSP S and C fund

If you reference the charts above you will see the seasonally-modified S fund gained 2,382% compared to the seasonally-modified C fund’s respectable 1480% or the 720% to 725% gain for the buy and hold investor. This simply highlights the fact the small cap stocks have greater volatility to include during the favorable and unfavorable seasons each year.

Better returns is not the only benefit of the seasonal strategy.  Many buy and hope investors have a hard time “holding” after seeing their balance sheets plunge 50% when the financial media is predicting financial Armageddon as they always do at market bottoms – who knows next time they may be right.

SP500 drawdowns

 

Hopefully by taking a look at what we miss during the unfavorable season, the seasonal charts are a bit more believable.

So why doesn’t Wall Street push it – something about not being able to charge fees on cash half the year, or lower trading costs with only two trades per year. Advisers always have one of their funds (with fees) for you to invest in.  If it comes with low fees, it might invest in other funds which have the fees.  They are very good at what they do – hiding fees.

Think about all the mutual funds pushed on investors by financial advisers in the past that charged over 2% more annually than the very low funds Vanguard, Fidelity, Schwab and others offer today. The same formula applies – in 18 years those mutual fund fees reduced investment gains by 50%.  By shifting to low cost funds and applying a simple seasonal strategy, investor positions in equities should be able to beat the indexes themselves over the full market cycle.

Our timing of the favorable and unfavorable season for stocks was built upon the work of Sy Harding.  His award winning strategy timed the Dow Jones Industrial Averages.  I was looking for a simple-to-execute strategy for the retirement funds and his strategy exceeded all our objectives. We were able to improve upon his strategy and optimize it for the SP500 and the small cap indexes.

If you invest in the TSP funds or other accounts with SP500 funds and small cap funds, you can start following the Seasonally-Modified Buy & Hold™ strategy today.

Our most basic service includes sending out e-mail alerts at the start of the favorable and unfavorable season.  If you are interested in joining us first learn more about us or our levels of service.