This Year, the Markets May Have the Cure for the Summertime Blues - TheStreet

If there were a summer theme song for the market, it would probably be the Summertime Blues, but this year, it may very well be Hot Fun in the Summertime.

By the time Memorial Day rolls around, Wall Street tends to drag out its suitcases and pack it in for the season. But after the winter we've had -- the

Dow Jones Industrial Average fell to a two-year low of 9389.48 on March 22 and the

Nasdaq Composite dropped to a 31-month low of 1638.8 on April 4 -- strategists are predicting a hot summer.

You've heard the adage on summer seasonality before: "Sell in May and go away." While broader market history bears out that strategy, analysts say this summer is an exception. They say a combination of factors -- among them

Federal Reserve interest-rate cuts, signs of an economic bottom and a steeper

yield curve -- may add up to a genuine summer rally.

In a recent study,

Ned Davis Research

took a look at seasonal patterns and how they played out over the past 51 years. They showed that investing $10,000 in the

S&P 500 -- only keeping the money in the market from Oct. 1 through May 3 of each year -- netted an impressive $595,909 over a 51-year period. The same amount put into the S&P over those years from May 4 through Sept. 30 netted just $2,977.

A further analysis of the trend shows that stock gains, in every sector, are far more pronounced from October through May. For example, over the past 10 years, the

S&P Financial Index

tacked on 13.1%, on average, during those months, while it gained only 5.6%, on average, from May through October. Similarly, the

S&P Technology Index

increased, on average, 15.3% from October through May since 1991, but advanced, on average, only 6.1% in the rest of the year.

Still, analysts argue this year is different. "Given that the strongest period of the year has actually been weak, the pattern might not hold up," said Sam Burns, research analyst at Ned Davis. "I think the market will work its way higher over the next few months. Most of the indicators, outside seasonality, are positive."

Since the beginning of the year, the central bank has cut the

fed funds rate five times by a total of 250 basis points to goose the economy. The Fed is expected to reduce short-term interest rates again, when it meets on June 26-27. The

fed funds futures, a good proxy for monetary policy, are currently pricing in a 100% chance of a 25 basis-point cut and 50% odds of a 50 basis-point cut later this month. According to Ned Davis, the Dow Jones advances 4.31%, on average, in the 22 days following the sixth in a series of rate reductions.

Seasonality "is a small piece of the puzzle," said Steve Goldman, market strategist at

Weeden

. "We don't change holdings based on seasonal patterns."

"What will have more of an impact on the market, Fed easing or summertime?" asked Charlie Reinhard, senior market strategist at

Lehman Brothers

. He answers: "The Fed."

Reinhard, for one, is bullish on the summertime and he likes financial stocks. "Historically, they outperform the S&P from the third to 12th month after it hits a low, which means they'll begin July 4 this year." (The S&P 500 hit a 31-month low of 1103.25 on April 4.) Reinhard is also a fan of consumer cyclicals, capital goods and basic materials, as price inflation is slipping relative to labor inflation, now that the market is anticipating a recovery.

There are other indicators, which reveal strength heading into summer. The weekly advance-decline line on the

New York Stock Exchange, which measures the number of Big Board stocks that have advanced and declined over a five-day period, reached an all-time high on June 8. The trend, which shows more stocks rising than falling, is considered a bullish sign. Separately, the

Arms Index

, which shows the relationship between the number of stocks that increase in price and those that decrease, indicates that the market is oversold, and therefore due for a bounce.

As far as seasonality is concerned, some money managers warn: You snooze, you lose. "If you ignore stocks from May through October, you'll miss a dozen or more swings on the market," said Larry Rice, chief investment strategist at

Josephthal,

a privately held securities firm in New York. "The summer doldrums don't exist anymore. People go to the Hamptons with their laptops." May and August do, however, hold the record for the lowest average daily volume since 1929.

"I'm not too sure seasonal factors will be a major influence this summer," said Richard Dickson, technical analyst at

Hilliard Lyons

. His pick: consumer staples. "They are the least extended,

meaning they're technically healthy, and will see the best momentum in the short term." Other favorites: drug, food and integrated oil stocks.

John Bollinger, head of

EquityTrader.com

, a Web site that gives investors a way to evaluate stocks on a technical basis, has done some of his own work on seasonality. His results, from a study that looked at the S&P over 40 years, show that the market does well through July 18 and then moves sideways until October. He suggests: Coming into July, it might be a good time to clean up your portfolio.

"Seasonality only provides a rough guideline," he said. "I'm constructive on stocks, based on monetary and fiscal policy."