January Barometer Sparks Debate - TheStreet

January may have given investors another reason to worry that stocks will go down this year.

While some may see it as a quirky indicator, the January barometer has worked with surprising accuracy over the last 53 years. The theory goes that if the

S&P 500

moves higher in January, the year will follow suit, while a decline in January signals that the market will end the year lower.

Since 1950, this gauge has been wrong just 10 times, according to the

Stock Traders Almanac

. It was only significantly off the mark -- for example more than 5% -- on four of those occasions. So the fact that the S&P 500 fell 24 points, or 2.7%, this January is considered an ominous sign.

Nonetheless, investors can take comfort in the knowledge that some analysts have little respect for the January indicator. For one thing, analysts claim the data, which have been compiled by the

Almanac's

Yale Hirsch, are flawed.

For example, in analyzing the performance of the market over the past 53 years, Hirsch included January in the calendar-year figures that the month was intended to forecast. But Robert Bronson, principal of Bronson Capital Markets Research, said, "It is only meaningful to analyze January's predictive power in relation to the next 11 months, not the 12 months including January."

In 1960, for instance, the S&P 500 fell 7.1% in January, and the year ended down 3%. But from the end of January until the end of the year, the market actually gained 4.5%.

Another calculation error, according to Bronson, is Hirsch's failure to include dividends. When "properly" computed, he said, there are 16 times when the January indicator failed over the last half-century. And while a 70% accuracy rating may seem good, it's actually no better than if investors had simply bet every year that the market was going to rally.

What could make the indicator less reliable this year is that the market already has endured three consecutive down years, and a war with Iraq is looming. Hirsch noted that in periods of great change or upheaval, the indicator tends to be less accurate. Two of the four significant forecasting errors occurred in 1966 and 1968, he said, and were related to the Vietnam War.

Meanwhile, in 2001, the

Fed

cut rates twice in the month of January, creating an ebullient mood at the start of the year, which was crushed, at least in part, by the Sept. 11 terrorist attacks. In 1982, the start of a powerful bull market in August helped the market to finish higher for the year despite a decline in January.

Brian Belski, fundamental market strategist at US Bancorp Piper Jaffray, said, "This is one of those periods where the market sets its own rules." The barometer "gives investors another bearish data point on the heels of three down years, but does it mean the market will be down by year-end? I don't think so."

Belski believes that if the country goes to war, the market should begin to move higher. "I think the next major move should be to the upside," he said.

John Waterman, managing director of investments at Rittenhouse Financial, agrees. He said that because the January barometer hasn't worked well over the past couple of years, he wouldn't be relying on it this year. Indeed, he expects stocks to go up in 2003, helped by a 10% rise in corporate profits.

Furthermore, he said that if investors are considering using the January indicator as an investing tool, they should be consistent and use it every year for a couple of decades or more. "If you act on it in just one year, the odds are you won't win," he said. "For our perspective, it's not something we're going to pay much attention to."

Still, Jeffrey Saut, chief investment strategist at Raymond James, believes that the January indicator, in conjunction with the December indicator, portends bad things for the market. "The December indicator runs like this: If you take out the lows made in December anytime in the first quarter of the New Year: Watch out. It's a very negative sign," he said.

Taken together, Saut said, the two barometers have an almost "flawless" record of being correct. That said, he believes the market may be in for a trading rally over the near term as stocks temporarily bounce back from oversold levels.