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What Happens After Stocks Were Up Big in January?


Expect a big rally until the second half of the year, then a correction or a bear market.

The stock market was up big in January. A few researchers didn't even wait until the end of last month to note that when the market goes up a lot in January, it usually does well for the rest of the year. While there is a lot of truth to this, there are a few interesting aspects of the "Big January" indicator that you probably have not read elsewhere. Let's take a look.

Last month was the 27th best performing January dating back to 1800 (when the data starts). If you look at how the market does after a big January since 1800, the data offers little in the way of predictive value. There were a lot of times the market went up and a lot of times the market went down. However, since 1936, the market does indeed seem to have a tendency of continuing to go up after a big January. For the rest of this article, to avoid redundancy, when I refer to the market, I am referring to the market after 1936. Here is the data:

To make it clear, "Post January 31 rally" does not include January. For example, on August 25, 1987, stocks were up 39.43% for the year.

Some observations are as follows:

1. Of the 17 other times the market was up over 4.06% in January, the market did not experience a 10% correction until the second half of the year 16 out of 17 times.

2. Of the 17 other times the market was up over 4.06% in January, the market went up at least 10.8% before a 10% correction 15 out of 17 times.

3. Of the 12 other times the market was up 5% in January, stocks started a bear market or correction in the second half nine out of 12 times.

4. The bull markets in all of the above instances lasted until August 25. Besides 1987, the next shortest bull ended in December.
In all of the instances in the table, the S&P still had another 17.58% left in the bull.

But how do you know if the second half of the year will bring a continuation of the bull market, a correction, or even a bear market? Valuation may offer a slight hint. Here are the months with 5% Januarys:

The times when a bear market started in the second half (marked in red) had considerably lower earnings yields than the times when there was no correction or bear market for the rest of the year (blue). The corrections' earnings yields (yellow) were all over the place.

While valuations don't do much to answer the question of correction vs. bear market, it appears that the current below average earnings yield suggests a correction/bear market will probably commence sometime in the second half of the year.

In summary, this indicator suggests the optimal strategy would be to continue to hold on to your longs and then probably sell at some point in the second half of the year.
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No positions in stocks mentioned.
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