Home Seasonal strategies The Halloween Effect Trading Strategy (Backtest and Rules)

The Halloween Effect Trading Strategy (Backtest and Rules)

Halloween Effect Trading Strategy
Halloween Effect Trading Strategy

Research shows higher stock market returns from November through April than for the rest of the year. Can we confirm that there is a Halloween effect in trading?

Yes, there is a Halloween effect in trading. From November to April, stocks perform significantly better than the rest of the year.

Let’s dig a bit deeper into the Halloween effect trading strategy and backtest the strategy. First, let’s look at what Halloween is and how it originated:

What is Halloween?

Halloween is an annually celebrated holiday that takes place on the evening of October 31st and has its roots in Celtic traditions. Christian celebrations later influenced it and is now known mainly in North America and other parts of the world, such as the UK and Ireland.

During Halloween, there are many customs and activities that are often associated with creepiness and fright. For example, it is common to carve pumpkins and use them as jack-o’-lanterns to create a spooky atmosphere. Also, people dress up as ghosts, witches, or other horrifying characters to scare them.

Another custom is the so-called “Trick or Treat”, where children ask for candy from door to door. This custom originates in the old tradition of “All Souls Day,” when food and candy were given to the poor to pray for the salvation of the deceased.

In many countries, Halloween has become an important festival, celebrated with various events such as parties, parades, and spooky decorations. The primary purpose is to explore the dark side of the world and celebrate the spooky and creepy.

What is the Halloween indicator?

The Halloween indicator is a market timing indicator and a theory in finance that states that there is a seasonal anomaly where stock prices rise more during the winter months compared to the summer months.

The indicator states that investors are more likely to exit the market during the summer months and not re-enter until the fall, resulting in higher demand and rising stock prices during the winter.

Although some statistical data suggests that the Halloween indicator has indeed worked in the past, there is no scientific confirmation that this effect will occur in the future. Some financial experts consider the Halloween indicator a superstition or a random correlation.

You might have already heard the following saying, which describes the same effect: “Sell in May and go away. But remember to come back in November!”

What is the Halloween strategy?

Is it possible to make use of the above-mentioned Halloween market timing indicator? Let’s define a strategy and backtest it.

The trading rules are as follows:

  • We’re buying S&P500 (SPY) each year at the open of the first trading day in November, investing 100% of our capital.
  • We sell the position at the open of the first trading day in May.

It is as simple as that. Let’s see how the strategy performs.

Halloween strategy/effect backtest and performance

We’re backtesting SPY, the ETF that tracks S&P 500, from its inception in 1993 until today.

The equity curve looks like this:

The Halloween effect in trading

The drawdowns are “moderate” and significantly lower than buy and hold:

The Halloween strategy backtest and performance

Starting with an initial equity of 100 000 USD, you would end up with 510 000 USD after 30 years.

The strategy gives you an annual return of 5.57% while being invested only 44% of the time. Compared to the buy&hold statistics for the same ticker and the same time interval, the Halloween strategy underperforms (buy&hold is 7.69%).

However, this is a good result for such a simple strategy, ending with a risk-adjusted return of 12.7% (CAGR divided by exposure). Also, the maximum drawdown of 56% for buy&hold is reduced significantly to 37% for the Halloween strategy.

The Halloween effect in trading – conclusion

The Halloween strategy we presented in the article shows that there is indeed a seasonal Halloween effect: S&P 500 performs significantly better from November until May compared to the summer month.

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