Should investors pay attention to the January barometer or the January effect?
“As January goes, so goes the year” in the stock market. Thus runs a common belief among traders. If you believe it, you’re probably scared right now, as the Standard & Poor’s 500 Total Return Index was down 7.66% in the first three weeks of this year. Take heart. The January indicator belief—often called the January barometer—is a superstition. I’ve studied market action from 1950 through the present to see if this barometer means anything. That’s a period of 72 years. In the crudest sense, the barometer was right 77% of the time. However, a naïve forecasting model that predicts every year will be an up year was right 79% of the time. That doesn’t speak well for the putative barometer. But wait, it gets worse. January is, of course, part of the year it’s supposed to predict. So a fairer test would be: How well does January predict the next 11 months? On that basis, it has been right only 67% of the time. Most important for the jangled nerves of traders is this question: How accurate is the barometer in years when January is down. Here is where the fallacy of January’s prophetic quality really falls apart. From 1950 through 2021, January has been down 29 times, but in only 12 cases did the market decline for the full year. That’s an accuracy rate of 44%, worse than chance. Can I offer assurances that the market will be up this year? No; no one can.
