'January Barometer' May Leave Investors Out in the Cold
Even with the recent pullback, stocks are likely to end January with solid gains. But the so-called January Barometer—normally one of the most reliable market indicators—may not be so accurate this year.
This particular market maxim holds that the first month of the year often lights the way for the remaining 11 months. It's a trend that has held up especially well when the Standard & Poor's 500 posts a gain, indicating a positive result for the year 87 percent of the time since the end World War II.
But this is setting up to be no ordinary year. So investors may be disappointed if they think the market's more than 3.5 percent gain in January so far promises more profits ahead.
"To be sure, economic data continues to be supportive and we have yet to meet an investor in recent weeks who is significantly overweight credit — which together are very good signs," Jason Shoup, fixed income analyst at Citigroup, told clients in an evaluation of risk balance between the equity and credit markets. "Nonetheless, we suspect the easy gains are largely gone."
There are the usual concerns about the market this year that probably are already baked into stock prices — Europein particular, as well as the housingand unemployment problems in the U.S. — but some recent developments have added to the concerns.
Last week, the Federal Reserve rattled investors by expressing concerns over economic growth and extending its pledge to hold interest rates near zero a year longer—until late into 2014.
Many market pros took the Fed's statement, and an ensuing news conference from Chairman Ben Bernanke, to indicate that a third round of asset purchases — known as quantitative easing, or QE3, on Wall Street — was on its way.
Yet the market rallied only on Wednesday and has been in negative territory since then.
"Given this week’s moves we are concerned the third round of QE may not live up to expectations," Shoup said. "All in all, (the market moves were) a rather muted reaction, considering Chairman Bernanke articulated a much more aggressive stance on QE during the press conference. What’s more, it makes us start to question the ultimate scope for the rally."
What's more, investors may want to be careful what they wish for when it comes to additional easing.
Bernanke likely is waiting to see whether the economy — housing in particular — can recover on its own before jumping in with QE3. So should the central bank move to more easing, it will be because the U.S. is faltering and in need of the central bank to expand its balance sheet from its current $2.9 trillion level.
"Those forecasting a seamless move to QE3 are ignoring the fact that both the economy and the markets are likely to weaken before the Fed comes to the rescue," said Ethan Harris, North American economist at Bank of America Merrill Lynch.
"Thus, we disagree with the idea that the stock market moves straight from a risk-on recovery to a Fed liquidity recovery," he added. "Stock market bulls should hope there is no QE3 because a big economy-driven stock market dip could precede the liquidity-driven bump higher."
Recent economic reports also casts a shadow over hopes for a January carryover.
A report Monday showed consumer spending was flat in December, setting the tone for a slowdown in demand in early 2012.
And on Friday, the government said gross domestic productrose 2.8 percent in the fourth quarter of 2011, a result that was below expectations. More importantly though, the GDP internals showed that most of the gains were due to temporary inventory rebuilds, indicating that 2012 will be a slow-growth year that could weigh on stocks.
At the same time, companies have struggled to meet severely lowered earnings expectations, with less than 57 percent of the companies on the S&P 1500 beating estimates thus far.
"This continues to be a recovery of fits and starts," said BofA economist Michelle Meyer.
Still, the market has history on its side.
Most positive for investors is that it would represent an epic fail should the January Barometer not hold true this year.
The trend has never been wrong during presidential election years, and the barometer technically worked in 2011 if you factor in dividends, said Sam Stovall, chief equity strategist at Standard & Poor's.
Stovall said the market also has another important historical trend working in its favor — a typical 32 percent gain the year after coming out of a near-miss bear market as was the case in 2011.
"There's no guarantee that this is not going to be a down year. But this certainly makes investors feel a little bit better," he said. "But the market continues to remind us that there are things out there to worry about."