- Stocks moved higher to start 2010, and according to a beloved market myth, that bodes well for the whole year.
- One month's performance doesn't tell us anything about what will happen going forward. 2008 and 2009 started poorly—one ended down big, the other up big.
- The theme will likely get play in the press if January is weak—and there'll be silence on stock seasonality if the month ends higher.
- Investors should ignore this market myth in either case.
Hear ye, hear ye! Markets opened 2010 on an up-note Monday and Tuesday. That's excellent news. As everyone knows: So goes January, so goes the year. Good luck and god speed. We'll see you next January—our job is done here.
What's that? Crazy talk you say? Fine. We'll wait out the month. By January 30th we'll surely know exactly how 2010 will end—and then…vacation. Still not satisfied? Well good! We'd be disappointed if you were. Of course, we wish investing were so easy—but it's not.
There isn't a soul in the wide world who would base an entire year's forecast on one measly month. (Or at least we certainly hope there isn't.) But you wouldn't know that by the headlines some years. The so-called January effect—or the belief that if a year starts one way, it'll end that way and vice versa—is a fickle thing. It seems to fade into obscurity somewhat in years that begin well, emerging again to confirm bearish sentiment in years that start badly. (Sure enough, this year's positive start is bringing little commentary so far—with some folks even calling the January effect a myth outright.)
Of course, regardless of January's actual performance, extrapolating one month's returns forward a year isn't a great investment tool. Another financial mantra rings truer: Past returns are never indicative of future performance—stocks are serially non-correlated. No matter what story one day tells, there's an equal chance prices reverse course or continue in the same direction the next.
Backtesting the January effect shows as much. Plenty of years that start one way, end another. Sometimes years that start down, end up big—last year for instance. Stock markets were caught in a nasty downdraft to kick off the year—US and global stocks were down 8% and 9% respectively in January. Of course, US and world stocks ended the year up huge—26% and 31%.
So maybe the rule works inversely you say? Not so fast. Some years that start one way, do actually end the same—2008 was a good example (down in January, down on the year). And in between the extremes, many an annum proves more or less a wash compared to its January return. There simply isn't enough correlation to base a year's investment decisions on just January.
But that won't stop pundits and prognosticators. Folks will reframe the argument if it doesn't prove what they want it to. January wasn't down? Well, it isn't the whole month that counts then—just the first ten days. Should January (or the first ten days) end negative, there'll be plenty of play in the press. If instead the month posts a strong start throughout—we suspect silence on stock seasonality will surely ensue.
No matter what happens in the headlines, we'd do best to forget the "so goes January" market myth. The fundamental forces driving bears and bulls little heed such subjective seasonal boundaries—which of course means investors shouldn't either. So never fear. Much as we'd like to hit the beach for the next year—one mercurial month won't have us abandoning our post anytime soon.