Learn how investors can use seasonality charts to potentially identify stock trends.
Have you ever heard of a Santa Claus rally? Or how about the expression, “Sell in May and go away”? Both of these concepts originated from the idea that there are certain times in the year when the stock market tends to over or underperform. Another term form this stock market occurrence is “seasonality.” Markets as a whole can be seasonal, as well as individual stocks, which can outperform during winter months, summer months, or other times. The cause of this seasonally differing performance can vary, but it’s often the result of company sales performance that waxes and wanes during different months of the year.
Whether market seasonality will continue in the future is unknown, but there is a way to test the occurrence of past seasonal variations in stocks, ETFs, indices, mutual funds, and almost anything that can be charted on the thinkorswim® platform. It’s through a feature called “Seasonality charts.” One benefit of these charts is that it allows investors to “test out” other’s claims of seasonal performance market trends. It also allows investors to potentially discover tendencies in stocks that are already in their sight.
To locate Seasonality Charts on thinkorswim, select the Charts tab and pull up the desired chart. Next, select the Style drop-down menu located in the upper right, and from the available choices, select Chart Mode > Seasonality. This will bring up a chart with two lines on it.
Before you look at the Seasonality chart for insight, consider making two settings adjustments to it. One, switching the chart’s time frame to 10 years may be beneficial as it can help smooth out the impact of any stock’s one-year price movement. Two, changing the chart to a percentage chart may help you interpret what it’s showing more clearly. To make the chart a percentage chart, select the gear icon at the top of the page. From here, select the Price axis tab, check the box Show price as percentage, and then select apply.
Now that the chart is setup, you’ll see two lines. The first line, shown in red (see Figure 1), indicates the performance of the displayed security over the selected time span indicated at the top of the chart, which is 10 years in this case. From this line, you can see month-to-month how it performed on average via a percentage basis.
FIGURE 1: SEASONALITY PERFORMANCE. Research a stock’s previous seasonality trends by creating a Seasonality chart in thinkorswim. Source: thinkorswim platform. For illustrative purposes only. Past performance does not guarantee future results.
As shown in Figure 1, stock XYZ performed significantly better during the last few months of the year than the rest of the year. Overall, the stock is averaging approximately an 8.5% annual increase with almost all that growth occurring toward the end of the year. In other words, there appears to be relatively strong seasonality in XYZ stock. Although almost all stocks will show some variation in performance throughout the year, for most stocks, the difference between months will be much more subtle.
The second line on the chart, in this case, the green line (see above), displays this year’s performance of the selected security. To this point of this year, stock XYZ (-1.4%) has underperformed the stock’s average past beginning-of-the-year performance.
Why do some stocks show seasonality? A lot of it isn’t hard to extrapolate. Warm weather sports manufacturers will likely sell more during the summer months. Many retailers do particularly well during the holiday shopping season. However, just because a company sells more during a particular time of the year does not mean it will necessarily translate to a strong stock performance during that time of the year. That’s why it’s important to check the Seasonality chart for actual performance before you invest using this approach.
So, armed with this information, how might investors or traders use it in the market? First, remember using Seasonality charts should most likely be just one aspect of a larger investing plan. Anticipating a period of outperformance in a stock should only come after you’ve selected a well-researched stock. A fundamentally poor stock is probably a bad choice no matter what month of the year you buy it. Long-term traders may choose to buy an otherwise good prospect at a period where better performance is anticipated. This is analogous to a runner trying to get a quick start out of the blocks. For shorter-term traders, a similar approach can be used, such as setting up a particular exit for the stock.
Once you try out Seasonality charts, you may find that they become a welcome addition to your investing toolbox. While there are no black box solutions to trading success, finding tools such as Seasonality charts may help smooth the path to your investing success.
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