S&P 500 faces 'bumpy patch' following banner month

by Jessica Menton

A frenzied May rally has equity analysts bracing for an end to the run in what has historically been one of the weakest months for S&P 500 Index returns.

The prospect of renewed trade-war concerns, uncertainty over the path of Federal Reserve policy and quarter-end portfolio rebalancing all risk rattling the market after the S&P 500 soared 6.2% this month through Thursday, putting it on track for the biggest May gain since 1990. The blistering rally, propelled by a reprieve from President Donald Trump’s tariff offensive, has left the benchmark within 4% of its February record.

“Traders have become too desensitized to the tariff shock-and-awe strategy by Trump,” said Jeffrey Hirsch, editor of the Stock Trader’s Almanac, who correctly forecast the recovery after the 2008 global financial crisis. “After this massive rally, stocks will likely hit a bumpy stretch in the coming weeks on risks that this administration may try to implement more dramatic trade policies.”

Pricey valuations, muted demand for hedges and stretched investor positioning have left stocks vulnerable to a pullback, according to Hirsch.

That may lead to weaker returns in June. The S&P 500 has risen just 0.2% on average in June over the past three decades, compared with a 0.8% move in the other 11 months of the year, according to data compiled by Bloomberg. Fault lines are already forming after a Thursday rally mostly stalled out as solid results from Nvidia Corp. were overshadowed by uncertainties on Trump’s levies.

Tests Ahead

The first test of the market’s resolve will be the Fed’s interest-rate decision on June 18. Two days later comes “triple witching” — when a large swath of equity-tied options expire, amplifying volatility —  and the end of the month brings quarterly portfolio rebalancing. Those are the critical milestones that will determine if bulls can keep driving stocks higher with the S&P 500 edging toward 6,000, a key psychological threshold.

History doesn’t bode well for stocks in the months ahead. In post-US presidential election years over the past seven decades, the S&P 500 has typically struggled in early June as investors book profits heading into the summer months, which is particularly the case if stocks get a strong boost in May, like this year, according to Hirsch.

‘Sell in May’

The adage “sell in May and go away” alludes to a six-month stretch ending in October that historically has been the worst time to own stocks. 

Since the early 1970s, the S&P 500 has had a mediocre stretch from Memorial Day through Labor Day, averaging a gain of just 1.8%, Hirsch says. Still, in recent memory, the S&P 500 has suffered losses in June just once in the past decade, data compiled by Bloomberg show. 

This time though, fund managers have reduced cash holdings and invested heavily in US stocks in recent weeks. That bullish tilt raises questions over who’s left to buy after fund managers piled into stocks at a furious pace in May. 

Commodity trading advisers, or CTAs, which typically buy stocks as index prices rise and sell when they decline, turned net long on equities last week for the first time since early March after the S&P 500 broke above 5,800, according to UBS Group AG. But CTAs will be only moderate buyers in the coming weeks if the S&P 500 doesn’t top 6,000 soon, says Maxwell Grinacoff, an equity derivatives strategist at the bank.

“CTA positioning remains skewed to the downside,” Grinacoff said by phone. “If the market rally unwinds soon, those trend followers will be forced to turn net short on stocks. That would inevitably push shares lower from here.”

Copyright Bloomberg News