The tenth anniversary year of this bull market got off to a great start in 2019. After posting the largest one-day point decline in history on Christmas Eve, January proved the Grinch did not steal the stock market. At the end of the first two months this year, the S&P 500 stock index gained 17.5 percent.
Despite a weak start in March, the stock market has already far outperformed the historic average annual return of the S&P 500 index, which is slightly over 10 percent, including reinvested dividends.
The January Barometer
According to the January Barometer, first created by Yale Hirsch of The Stock Trader’s Almanac in 1972 (www.stocktradersalmanac.com), January sets the tone for the rest of the year. And the results from January have a historic accuracy ratio of about 75 percent in predicting whether the market will be higher or lower at the end of the year.
Despite its long-term track record, the January barometer has had a few recent misses. In January 2018, the S&P 500 index was up more than 5 percent, leading to great optimism. But few will forget the dramatic decline that followed in February. And as a whole, 2018 was a losing year with the S&P 500 falling 6.6 percent. Similarly, the barometer had a big miss in 2016. The market fell 5 percent in January, but ended the year with a 10 percent gain.
Has something changed to impact the barometer? Or can we sit back confidently, and feel secure that the market will end the year higher in 2019? And does any of this make any difference to your investment success over the long run?
The market beats the Barometer!
A new study by Jeff DeMaso, CFA, and head of research at Adviser Investments (www.adviserinvestments.com), says the whole concept of a predictive indicator can be dismissed, despite the stellar start this year. He looked at the historic first two months’performance of the stock market every year since 1926 and came to the conclusion that “stocks’ performance in the first two months of the year tell us absolutely nothing about how the next 10 months will play out.”
DeMaso notes that this year was only the seventh time since 1926 that large cap U.S. stocks gained more than 10 percent during the two-month period at the start of the year. And for the rest of the year in those cases, there was a wide diversity of results in the final 10 months. They range from a gain for the year of 16.7 percent (in 1991) to a loss of 51.8 percent (in 1931).
He concluded that statistically, there is no predictive benefit to starting the year with a bang. This year’s two-month gain ranked in the top 5 percent of all two-month results. So, DeMaso looked at all the subsequent performances after any period of double-digit two-month gains. His study showed the 10-month returns that followed averaged a gain of 14.1 percent — slightly higher than the average return for all 10-month periods at 10.1 percent.
A reality check on investing
It’s easy to get confused by statistics. And it’s understandable that we all want some predictive guide to the future. That’s the appeal of the January Barometer, which seems to have a statistically significant predictive capability. I’ve written about it for years.
But DeMaso finally crushed my reliance on this famous indicator, saying: “If you used the January Barometer every year since the 1976 creation of the Vanguard S&P 500 stock index fund, the barometer was correct in predicting the results for the year 69 percent of the time. … But if you just started out every year saying, ‘Stocks will go up,’ you’d be correct 81 percent of the time!”
The stock market has a significant upward bias over the long run. There’s no reason to run the risk of trading in and out, or worrying about one year returns, if you’re a long term investor. You don’t have to “beat” the market; you just have to “be” there in the market — over the long run — to come out ahead. And that’s The Savage Truth.