Editors' pick: Originally published Dec. 28.
Going into this year, this popular seasonal indicator made up of three components had a 65% to 74% accuracy ratio, but it bombed anyway.
Here are the three components: The Santa Claus rally; the first five days of January; and the January barometer.
Invented and popularized by The Stock Trader's Almanac, the components basically act as barometers. As they go, so goes the following year, supposedly.
As the table below shows, the SCR, F5D and JB were solidly bearish this year, down 2.3%, 6% and 5.1%, respectively. Using the composite message as a barometer, the stock market should have actually tanked this year.
The Stock Trader's Almanac expected the following outcome: "A mild bear market is still on the table at this juncture. What exactly does this mean? We do not anticipate another 2008 style total global meltdown. We envision something more akin to the 1980-1982 bear market that ended the last secular bear market. Back then, the [Dow Jones Industrial Average] shed 27.1% in 622 calendar days."
Does this mean that investors should ignore this seasonality based indicator?
No, any indicator with a 70% plus or minus accuracy ratio deserves attention.
But indicators should always be viewed in context. The bigger the context, the better.
For example, since 1970, all three barometers have been negative just five other times. This bearish trifecta "killed" the market in 2008 but hasn't been consistently bearish as the table above shows.
The chart below, which was published in the Profit Radar Report's 2016 S&P 500 Forecast, shows the average performance of years with January losses of more than 5% (1970, 1977, 1978, 1990, 2000, 2008 and 2009).
Based on history, there was a good chance for a strong first to third quarter rally, despite a historically weak January.
When casting an even wider net, one that extends beyond seasonality and performance patterns, a net that includes investor sentiment, technical analysis and money flow, it became clear that this year actually looked quite bullish. See the projection below, published in Profit Radar Report's 2016 S&P 500 Forecast.
No indicator is right all the time, and even otherwise reliable indicators will be terribly wrong at some point.
Many financial headlines and research articles focus on one indicator, but the key to successful investing is indicator diversification.
Monitoring a composite of indicators neutralized the bearish message of SCR, F5D, JB early this year and kept investors on the right side of the trade.
We will soon know the results of the 2016/2017 SCR and 2017 F5B and JB, but those shouldn't be the only indicators for investors to consider.
This report features a comprehensive S&P 500 forecast based on investor sentiment, money flow, seasonality and technical analysis.
This article is commentary by an independent contributor,
who at the time of publication owned none of the investments mentioned.