What January's Stock Market Gains Tell Us

Some people have turned bullish because of the market's early-January advance. But what do the first month's returns really say about the rest of the year?

Want the market to go up? Who doesn't? Well, it'll help the odds a little if the market advances in January.

But just a little. After all, there are a lot more important influences on the market than how it performs in one month -- such as partisan gridlock in Washington, the recession in Europe and corporate earnings.

Mark Hulbert, editor of the Hulbert Financial Digest, looked at the Dow Jones industrial average going back to 1896. He found that when the Dow rises in January, it gains an additional 7.7% for the rest of the year, on average. When it falls in January, it rises an average of only 3.8% for the rest of the year.

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A bad January doesn't foretell a loss for the rest of the year, but it does raise the odds of a losing year. When the market falls in January, it rises from February through December just 52% of the time. By contrast, when January is an up month, the Dow rises for the remainder of the year 73% of the time.

Hulbert says the January barometer only started working in 1940. Before that, January advances actually made it less likely that the Dow would rise the remainder of the year. So the January effect has become much stronger in modern times.

Why does the January barometer have any predictive value? Because momentum works, to some degree, in the market. When the market is rising, odds are it will continue to rise. And vice versa.

In fact, Hulbert found that December is actually slightly better than January at predicting the market's gains (or losses) over the subsequent 11 months. November is the third best month at predicting the next 11 months.

The market has been sending a mixed message of late. The Dow fell 0.5% last November but rose 0.6% in December.

Remember, you can hardly take these predictions to the bank. For instance, in 2009, the Dow plunged 8.8% in January but gained 30.3% for the subsequent 11 months.

Some analysts say the first five trading days of the year are useful in predicting the market's returns for the rest of the year. Hulbert disagrees, and I think he's right -- which is too bad, because the Dow rose 2.5% the first five days of this year as the market hailed the fiscal cliff deal.

On average, when the Dow rises the first five days of the year, it gains 6.9% the rest of the year. When it falls, it gains an average of 6.2%. Hulbert says there's no statistical significance in the numbers.

Steven T. Goldberg is an investment adviser in the Washington, D.C. area.

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Steven Goldberg
Contributing Columnist, Kiplinger.com
Steve has been writing for Kiplinger's for more than 25 years. As an associate editor and then senior associate editor, he covered mutual funds for Kiplinger's Personal Finance magazine from 1994-2006. He also authored a book, But Which Mutual Funds? In 2006 he joined with Jerry Tweddell, one of his best sources on investing, to form Tweddell Goldberg Investment Management to manage money for individual investors. Steve continues to write a regular column for Kiplinger.com and enjoys hearing investing questions from readers. You can contact Steve at 301.650.6567 or sgoldberg@kiplinger.com.