MARKET SEASONALITY – THE PREDICTING POWER OF JANUARY
This crazy year of 2020 was such a rollercoaster. People experienced the largest pandemic of the century, with periods of lockdowns and re-opening, with its winners (TSLA +951.77%) and its losers (GLBS -93.11%), and enormous economic stimuli all over the world. The new year has come with a lot of uncertainty regarding what the future will look like. To time the market and build successful strategies, investors use indicators, which are numerous in types. Based on the theory of market seasonality, which recognizes that there are cyclical patterns in the market, there are a series of indicators that can attempt to predict these recurring trends. In this article, you will find some indicators that can be used to try interpreting the month of January.
One should not make the mistake of considering the change from December 31st to January 1st as he would consider the change from a month to the other. While one might think there shouldn’t be much difference, de facto investors’ psychology plays a huge role in making this change special. People see the New Year as a fresh start and they reflect it on their investment decision. Furthermore, all social activities follow the calendar, influencing people’s needs differently throughout the year. For these reasons, when talking about market yearly seasonality, January is one of the most relevant months.
One of the most (in-)famous indicator is the “January Barometer”. According to the Barometer, the overall performance of the market in January can be a proxy of the performance for the following 11 months. In other words, if the stock market is up in January, it will go up for the rest of the year. Many have faith in the indicator, as well as many believe it’s nonsense. Since its first appearance in the “Stock Trader’s Almanac” of 1967 the Barometer has been right multiple times, hence some traders still use it as one of the tools to time the market (remember: no one should solely depend on one indicator to base their investment strategy). The January Barometer can be clustered with the indicators that reveal “Momentum”.
We have now established that most of the time the Barometer has been accurate in predicting a bull market. But is it as accurate in predicting a bear market? An analysis by Rocky White on moneyshow.com shows that it is not the case. While in the last 50 years the S&P500 has confirmed (83% of the times) the power of the January Barometer is predicting a bull market, after a negative January, the performance of the index has been floating around breakeven. The reason behind the better ability to predict a bull market could be that stocks tend to rise (since 1945 the market has closed the year higher than it started 77% of the time).
Other investors suggest that even the performance of the First Five trading days of the month can offer a good level of predictability on how the year will perform. Some theorists suggest another way of measuring this indicator; rather than interpreting the performance of the first five days, they consider the performance of the last five days of the month. The bullish signal would be a net gain over the selected period of time.
To sum up, all the three indicators works similarly: the investor who wants to trade based only on the Barometer or the First-Five/Last-Five indicators (which we highly discourage) would stay out of the market during the month of January while measuring the performance of the entire month or of the first five or last five days. If the performance of the selected period shows a net gain, the investor will long the Dow over le following eleven months; if the performance of the period shows a net loss, the investor will stay out of the stock market completely during that year.
Jay Kaeppel has tried to create a cumulative indicator for the month of January, that he called the “JayNewary Barometer”. This indicator works on a scale from 0 to 3, based on the results of the three abovementioned indicators. Every time one of the Barometer or the First-Five/Last-Five days indicators shows a bullish signal; the investor adds 1 to the model.
The model should be interpreted with the 0 as the most bearish signal and the 3 as the most bullish.
Many investors also follow what is called the “January Effect”. According to this theory, stocks tend to rebound more in the first month of the year than in the following months. Investors are inclined to close losing positions at the end of December, in order to claim tax losses; they usually wait for the new year to buy them back. This effect is well known by many investors who try to anticipate it. For this reason, the January Effect has been a more difficult trend to follow in recent years.
Journalist at BSL Investment Club
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