Taking the temperature of the January effect

Taking the temperature of the January effect

  • January is often a good month for the stock market — but not every year
  • Seasonal factors in general may be less reliable than a focus on fundamentals
  • Policy changes make 2017 a year to watch

With stocks taking a positive tone in early 2017, it’s worth noting that January has historically been a good month for the market.

This market anomaly — which also seemed to help small caps — was noticed many years ago and dubbed the January effect.

Interestingly, since it became widely known, the January effect has been much less impressive. CNBC looked back at the time period from 1980 to 2014, and found that January had fallen to fourth place for average S&P 500 Index monthly returns. December was the new king of the hill in the CNBC study. Unsurprisingly, this led many to speculate that it was still the January effect, just spread out over a longer period, as investors had learned to stake out positions a month ahead of time.

Seasonal or fundamental?

Market researchers, of course, have sought to find fundamental reasons that could contribute to monthly variations in performance. Much of Professor Thaler’s 1987 essay delves into possible reasons why the phenomenon occurred. Tax-loss selling at the end of one year, followed by new buying in January, seemed like one plausible explanation. Another was that, for retail investors, bonuses paid in December led to new investing during January. These and a variety of other hypotheses had some merit, but none proved conclusive.

One takeaway is that a market anomaly can emerge and present an attractive opportunity for vigilant investors. To take advantage of such opportunities, it might be best to go beyond the calendar and have a research system in place for constantly monitoring markets, companies, and economic data. Active investing means a constant hunt for finding valuable insights, but also having a research framework for continually questioning assumptions with new data.

This January, Trump matters

The year 2017 is no ordinary one for the markets. January started on a positive note with the market near record highs, continuing one of the longest bull market runs in history. The market has also moved up quickly since election day, when it became clear that Republicans would control both Congress and the White House and offer plans to facilitate business activity.

Changes to policy under the new Trump administration may include tax and regulatory reforms that could be positive for growth and supportive for corporate earnings. But it’s important to remain aware of the contingencies in this outlook. Some ingredients in the policy prescription, such as a different approach to trade agreements, could be adverse for growth. Also, the process of pushing legislation through Congress can both take time and produce some unexpected outcomes. And, last, the Federal Reserve is monitoring the policy details with a watchful eye to anticipate any inflationary impact.

January could set the tone for the year, or the market’s apparent optimism for new policies could give way to uncertainty or impatience. It’s worthwhile to have an active research approach that is alert to both growth potential and risk.


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