Stovall on Stocks: Cyclical Strategies

11/15/2013 9:00 am EST

Focus: STRATEGIES

Sam Stovall

Chief Investment Strategist, CFRA Research

Cyclical stocks have outperformed during the November to April period; this six-month period is when investors typically lean more cyclically, after being more defensive since the start of May, notes Sam Stovall, chief equity strategist of S&P Capital IQ in The Outlook.

By now, many investors are well aware of the old Wall Street adage to Sell in May. But how versed are they on the S&P 500's (SPX) performance during the other six months of the year?

Since 1945, the S&P 500 rose in price by an average of 7.0% from October 31 through April 30, compared with just 1.3% for the period from April 30 through October 31.

From November through April, the S&P 500 gained in price 78% of the time, and beat its performance in the subsequent May through October period more than 70% of the time.

Rotating into the S&P 500 consumer staples and health care sectors from May through October, and then returning to the S&P 500 from November through April, beat holding the S&P 500 all year long by 310 basis points per year since April 30, 1990.

Rotating into the consumer discretionary, industrials, and materials sectors from November through April, rather than back into the market, beat the S&P 500 by 640 basis points per year, and resulted in an even lower standard deviation of 13.7.

Finally, this semi-annual rotation strategy also outperformed a buy-and-hold approach with its overall benchmark when using the S&P Equal Weight 500, S&P SmallCap 600, and S&P Global 1200 since April 30, 1995 (a starting date consistent for all four benchmarks).

Since 1990, history shows that from May through October, the S&P 500 consumer staples and health care sectors rose by 4.6% and 4.7% respectively, versus 1.4% for the S&P 500, beating the market during this six-month stretch at least 65% of the time. Yet from November through April, even though all sectors rose in price, consumer discretionary, industrials, and materials beat the market as much as 390 basis points and did so more than 60% of the time.

So putting this knowledge to work, a hypothetical investor could have done one of three things.

1) He could have owned the S&P 500 all year long from April 30, 1990 through October 25, 2013. He would have earned a compound annual growth rate (CAGR) of 8.0%, excluding dividends reinvested.

2) This investor could have engaged in a semi-annual rotation strategy, owning the S&P 500 from November through April, but then taking a 50% stake in both the S&P 500 consumer staples and health care sectors from May through October. This strategy would have earned 11.1% per year, and it would have beaten the market 57% of the time.

3) If this same investor engaged in a full-year sector-rotation strategy, in which he had a 50% exposure to the S&P 500 consumer staples and health care sectors from May through October, and a one-third exposure to the S&P 500 consumer discretionary, industrials, and materials sectors from November through April, his compound annual growth rate would have jumped to 14.4%, and he would have beaten the S&P 500 65% of the time.

Finally, one of the more convincing attributes of this strategy is that it works not only with large-cap, US equities, but has also succeeded nicely when using sectors from the S&P Equal-Weight 500, the S&P SmallCap 600 Index, and the S&P Global 1200 Index. As always, remember that history is a great guide, but never gospel.

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