What’s “the January Effect”? It’s a simple seasonal investing rule that goes something like this: “as goes January, so goes the rest of the year.”
Seasonal investing is not quite an investment style, but more like a strategy, for making trades that correspond to cyclical market trends around the year. Certain events, and thus market movements, tend to happen around the same times each year.
Seasonal investing proponents like Brooke Thackray pay attention to rules such as “sell in May and go away,” but they don’t do this at the expense of first checking with real-time economic and market data. Although “sell in May and go away” has worked in many market cycles, it didn’t apply during 2009, a year with some of the oddest market behavior from the past century.
January Stock Market Behavior
The theory says that you need to compare the market close at the end of January with the market open at the beginning of January (i.e., with the market close from the last trading day in December of the previous year). So, choose the index you’re working with – say, the S&P 500 – and then check its opening levels for the year and compare it with the closing levels on the last trading day in January.
If the market close is lower than the market open at the beginning of the year, this is supposed to set the tone for the rest of the year’s market performance (at least, on that particular index). In particular, it could mean that the market will retest the previous month’s lows and potentially fall back to the next major previous support levels.
Whether or not this bears true is simply a matter of historical fact – how or why it should work is another matter altogether. But it’s easy enough to test yourself. I wouldn’t bet your whole portfolio on it, but perhaps use it as a suggestion for other strategies you might want to think about using.
If January – which is supposed to be a good month for stocks on the whole – doesn’t confirm this broader trend in any given year, it could be a sign of a weak market ahead, especially if there is little buying power catching stocks on the downside.
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