by Gordon Pape
The old Wall Street adage of "Sell in May and go away" could be sound advice despite a strong start to the month.
Sell in May and go away? That old Wall Street adage doesn't seem like such a hot idea right now - not after the sizzling start we've had to the month. It took only four trading days for the TSX to surpass its previous closing high for 2008 when it finished at 14,414 on May 6.
While I don't want to throw cold water on this new-found investor exuberance, I can't help thinking back to what happened in 2000. That's when an Easter week market plunge was followed by a spring rally that convinced many investors that the short, sharp correction was over.
We all know what happened after that. In the fall of that year, the dot.com collapse began in earnest. Then came 9/11 a year later and that exacerbated an already bad situation. By the time it was all over in late 2002, we had experienced the worst stock market plunge since the Great Depression. The Nasdaq Composite took the hardest blow, losing 80% of its value. Some investors saw their life savings vanish.
The dot.com bubble was created when investors allowed enthusiasm to trump common sense as they poured billions into fledgling concept companies with great ideas but no earnings. That's not the case today. Instead, we are dealing with the survival struggles of blue-chip financial corporations, pillars of the investment establishment. The consequences of failure could be disastrous. Federal Reserve Board chairman Ben Bernanke admitted as much in his defence of the decision to salvage Bear Stearns from bankruptcy with $30 billion in public money. We are on very shaky ground and have been for some time.
The market appears to be betting that the worst of the subprime mortgage fallout is behind us and that no other major bank, hedge fund, or lending company is likely to end up in a similar position to Bear Sterns. I fervently hope that is the case. If one more Wall Street giant finds itself contemplating the chapter 11 option, we risk seeing a market plunge that would make the January set-back look like a hiccup.
Hopefully, it won't happen. Perhaps the rally that we are seeing is truly the start of a new bull phase. However, I continue to advise a measure of caution. Summer is normally not a strong period for stocks at the best of times and because trading is much lighter, volatility can sometimes be extreme.
So, sell in May and go away? Well, while I wouldn't sell everything, I would certainly consider some profit taking during these strong rallies. Sit on some cash over the summer and see how the winds blow. You may find it's a lot easier to relax in the hammock if you do.
