Does Frequency & The Time Of Year Impact Investment Performance?
- Financial Advice
One question which I am often asked by pension savers is are they better off investing on a once off basis annually (normally they mean around November time when tax has to be paid) or would they be better off making monthly contributions, which is a concept known as “pound cost averaging”.
The idea behind pound-cost averaging is to provide some protection in case the market drops shortly after the money is invested. Instead of the entire investment suffering the loss, only the invested portion does, and the benefit is that the remainder is then invested at lower prices.
Pound-cost averaging can work well in a falling market, but there is a problem in that markets go up more often than they go down. In fact, over the past 20 years, the stock market has risen in 60% of individual months. This means that if you pound-cost average, more often than not you’re buying shares at increasing prices, which is an inefficient strategy.
However, there are still benefits of drip feeding. By spreading the contributions across 12 months the monthly investor has less money at risk at any one time, compared with the annual investor who has put everything into the market at the start of the year.
Time Of Year
So what are the good months to be investing in and what are the not so good ones? Over the years many phrases and idioms have been used to describe times when we should and shouldn’t be investing. I have a looked at a few of those old sayings below and assess if they have any merit.
One of the oldest and probably most famous saying of them all is “Sell in May and go away, and don’t come back til St Leger Day” describes how investors should enjoy the summer season without expecting growth in stock markets. The classic horse race the St Leger is held in September so according to this saying, investors are expected to sell their stock and forget about markets until the autumn arrives.
When we look at the chart of S&P 500 monthly comparisons below we can see that July is really the only positive month of the four under analysis. This could possibly be related to half year dividends being paid, which is something that would be missed out on by investors who sell in May. We also have to consider the dealing costs that come with selling and re-buying back in the autumn. Therefore, it might actually be a better option to hang on during the summer and come back with fresh eyes in the autumn!
“The Santa Claus Rally”. Would you believe there is also a theory that markets may benefit due to people’s spirits being lifted during the festive period. It is more an American concept than a local one and is in general attributed to an overall feeling of optimism and happiness on Wall Street and the investing of holiday bonuses. Many consider the Santa Claus Rally to be a result of people buying stocks in anticipation of the rise in stock prices during the month of January, otherwise known as the ‘January Effect’. Judging by our graph below, December is certainly a month you don’t want to miss.
“The January Effect” is a phenomenon that refers to abnormally high rates of return during the first month of the year. The reasons for it includes people selling in December to create cash flow for themselves so offering some bargains to those willing to mop them up. In many economies buying opportunities can arise due to people cashing in losses before year end for tax purposes, this can also lead to buying opportunities for those waiting the wings. Again when you look at our 62 year analysis on the chart below, January is not a month you would want to miss out on.
By John O’Connor
MD, Omega Financial Management