Those reading the tea leaves for the year ahead often swear by a single market adage: “As January goes, so goes the year.” Given the continual massive selloffs in the market amid fears of a global slowdown and prolonged glut of oil, that's a scary hypothesis for investors to accept. But do they have to?
On Wednesday, markets saw ample turmoil, the kind that has been common since the start of the year: the Dow Jones Industrial Average plunged by 565 points, but recovered and staunched the loss to 249 points as crude oil hit a 13-year low, declining to $27 a barrel. The midday recovery of the S&P 500 was an intraday move of 3%, but the rally did not help the benchmark index as it reached lows of 2014. Markets steadied a bit on Thursday morning with the S&P up 1.1%, the Dow up 1.2% and the Nasdaq up 1%, but with January expected to finish as a rough month, with the Dow currently down 8.38% since the start of the year and nearing the 10% drop that constitutes correction territory, investors are jittery over what that might foretell.
The historical trend infers that if the market gains in January, the rest of the year will follow suit and also advance. Likewise, the opposite outcome could occur where if declines ensue this month, the entire year will also fall.
This financial belief has been correct 36 times, or 72%, from 1966 to 2015 when examining the returns of the S&P 500 total return index, including dividends, said Robert Johnson, president of The American College of Financial Services in Bryn Mawr, Pa.
“Any indicator that ‘predicts’ the direction of the market correctly 72% of the time would seem to be something to take note of,” he said. January is relatively accurate bellwether.
Of course, examining the mitigating factors will demonstrate a more accurate picture of this phenomenon. The market generally advances in January for 58% of the 50-year period, and it also generally advances for the entire year - a whopping 78% of the time.
“By mere chance, we would expect the relationship to hold more than 50% of the time,” Johnson said. “While it has ‘worked’ 72% of the time since 1966, it has not worked in four of the last seven years, including 2009, 2010, 2014 and 2015 for the S&P 500.”
Indeed, there are always exceptions to this adage, especially in 2009. The market declined by 8.43% in January and closed the year with a 26.46% gain. From February through December of 2009, the market advanced by almost 35%.
“The bottom line is that returns in January, returns from February through December and returns for the entire year are generally positive, he said. “I wouldn’t read any cause and effect into January returns and returns for the remainder of the year.”
“Investors want to unlock the keys to the market and often look at historical relationships like this or the Super Bowl indicator of the stock market,” Johnson said. “For entertainment value, these relationships are fun to examine. But, I wouldn’t make any investments based on these relationships.”
Even for those skeptical about using January to make predictions for the rest of the year, it's still important to pay attention to the indications offered in the market sessions this early in the calendar.
January’s returns in the market could be an “early reading on what lies ahead," said Ron Surz, a portfolio manager with Covestor, the investing marketplace, and president of PPCA, a registered investment advisor in San Clemente, Calif.
“I predict a 19% loss in 2016, but not because January is down,” he said. “In other words, it’s a matter of cause and effect. Does the market go down because January is bad? Maybe, but investors do react to market performance, so a bad January could be a cause for investor fear and consequent dumping.”
January Effect is ‘Wrong’
Following this phenomenon is not a good strategy, because this month’s performance does not dictate the remainder of the year and is “at best, imprecise and at worst, wrong,” said Barry Randall, chief investment officer of Crabtree Asset Management, a registered investment adviser in St. Paul, Minn. and a portfolio manager with Covestor.
“In order for something to be predictive, it needs to be independent,” he said. “Otherwise, it's partly self-fulfilling. The bottom line is that the real ‘January effect’ is that 100% of the time, pundits, economists and strategists will interpret January stock market performance to be predictive of something, usually well before January is over.”
Attempts to time the market are extremely difficult, said Sreeni Meka, a portfolio manager with Covestor and managing member of Lakeland Wealth Management, a registered investment advisor in Memphis, Tenn. Market dips should be viewed as a positive since they present buying opportunities.
“We are long-term value investors,” he said. “We only invest in the equities trading at reasonable prices with high margin of safety. In the panic situations, equity prices drop faster and that is a great entry point, if you find the right stocks.”
Investors should recognize that buying stocks is like buying commodities where supply “dictates the price,” Meka said. “In the long, run fundamentals do matter. If you panic for minor corrections, you should not put your hard-earned money in the market.”
Despite the recent massive selloff in the market, panic selling is “never a good idea,” especially if you are not retiring for 30 years, Johnson said.
“Too many people confuse investing with speculation,” he said. “Betting on short-term price changes is nothing more than speculation. Investing in good businesses for the long term is what building wealth is all about."