Papale on the May October Effect

By Steve Papale

$141K.  That’s how much the top seat at the Mayweather/Pacquiao will set you back.  Now last I heard the seat has not sold for that but that was the asking price.  I’m not a boxing fan and don’t follow the sport but this fight is getting a lot of attention on sports radio, which I do listen to on occasion.  Wonder if that price includes parking.

Think of May and thoughts of spring and Cinco de Mayo and summer vacation are in our sights.  But for some market players, May means sell stock and sit on the sidelines until November.  The saying “sell in May go away” is based on the on the Dow having an average return from May to October of 0.3% compared with 7.5% during the November-April period.  There is much speculation why the anomaly exists but some point to lower market participation during the summer months equating to listless markets.  Keep in mind these are long term observations and there have been plenty of years, even recently, where selling in May would significantly hurt portfolio overall performance.  That said, if you are concerned with your stock holdings heading into this period you have a few choices.

First, you can sell some or all of your holdings.  Always an option especially if these seasonality factors might cause you to lose sleep.

Another way might be to use some easy to place option strategies designed to lower or even limit downside risk.  Writing an at the money or in the money call against a long stock position will give downside protection up to the amount of premium taken in.  The tradeoff is your upside potential might be severely limited so if the stock rallies you would miss out.

Another possibility is to place a collar.  This is simply buying a put where you want to stop the loss in the stock and selling a call to pay for all or part of the put.  Generally the call is sold at or above the current market price.  So by doing this you will have absolute downside protection below the price of the put but upside appreciation will be limited to the strike price of the call.

Finally, for absolute downside protection but also upside participation buying the put only is the way to go.  Think of this strategy as simply buying a term insurance policy for the stock.  It is an out of pocket expense and may hurt performance if the stock doesn’t move much but like insurance it is designed to protect in case of disaster.

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