Over the past 30 years, Canadian investors would have been better off investing in bonds than in stocks; not only did bonds have higher returns, they also had considerably less risk (see table below).
January 1982 to December 2011
Source: Dimensional Fund Advisors
This has led some investors to search for alternative strategies that they believe will help them beat the markets over time. One such strategy that has been gaining attention is the “Sell in May” strategy. Basically, an investor would allocate 100% of their portfolio to stocks from November to April of each year. Starting in May, they would sell all of their stocks and place the proceeds in cash (i.e. T-bills) – in November, the cycle would start all over again.
In the table below, I have created a portfolio to back-test this strategy, and compare the results to a diversified balanced index portfolio.
This portfolio is fully invested in the S&P/TSX Composite Index from November to April of each year, and then fully invested in Canadian One-Month T-Bills from May until October of each year.
“Couch Potato” Portfolio
This portfolio is invested as follows and rebalanced annually:
Although the “Sell in May” Portfolio outperformed the “Couch Potato” portfolio slightly (10.80% versus 10.13%), it did so at the cost of higher volatility (9.85% versus 8.53%) and resulted in identical risk adjusted returns (Sharpe ratio of 0.49).
I’ve also illustrated the historical rolling 3-year standard deviation of both portfolios in the chart below – as you can see, the extreme spikes in volatility of the “Sell in May” Portfolio could cause even the most seasoned investor to lose their cool.
Rolling 3-Year Standard Deviation: January 1983 to December 2011
For most investors, finding an asset allocation that they are comfortable with and sticking with it (rebalancing occasionally) will most likely give them the best probability of a successful investment experience.