Robo Street – January 4, 2018
All Hail to the January Effect and the Global Growth Narrative
2018 is off to a roaring start and market momentum that was lagging for a good part of December is right back with relative strength indicators pointing to higher prices for stocks of most sectors. There is nothing more encouraging for students of technical analysis than seeing a broad-based rally versus and market with narrow leadership. I find the hot start to the New Year attributable to a global wake-up call about what the upside tax reform will mean to rising corporate profits, and has triggered a buy, buy, buy wave of cash coming off the sidelines that is nothing short of impressive.
Some market professionals express that the strong market gains are a result of what is coined the “January Effect” and several theories have been put forth to explain why the January Effect occurs. One explanation is mutual fund managers will sometimes go shopping at the end of December to purchase stocks that have appreciated significantly during the year, a deceptive practice, known as “window dressing.” Any holdings that a fund owns at year-end will be listed in its annual report to shareholders, and it’s always looks good for a portfolio to contain a few extra winners on the books. Demand from these institutional investors can sometimes drive prices higher.
Furthermore, as the end of the year approaches, many investors unload shares of poorly performing stocks. Some of them may be simply trying to cut their ties to bad investments in order to get a fresh start to the new year. Primarily, though, year-end trading is heavily influenced by tax considerations, and many people will sell their losers in order to realize capital losses that can be used to offset capital gains elsewhere. Once the new year begins, the proceeds from those sales are often redeployed back into the market, thereby sending stock prices higher.
There is also the notion that a boost in stock prices can be attributed to investor psychology. For many people and corporate retirement fund managers, the beginning of January represents a good time to fund retirement accounts and benefit from the greatest amount of time during the calendar year for assets to grow on a tax-deferred basis. Makes sense as positive money flow is the oxygen for higher stock prices.
Quite frankly, the January Effect is a bit of a myth and hasn’t played out on more than one occasion in recent years. My take is that all three of these elements are contributing to the current elevation of stock prices against the investing landscape of synchronized global growth, structurally low interest rates and low risk of core inflation spiking.
So now that the Dow has crossed 25,000, the S&P has cleared 2,700 and the Nasdaq has topped 7,000 what does that mean for the market on a short-term and intermediate term basis? Is the market rich and overvalued or does the bull trend have a higher valuation perspective in store? There is no substitute for the Wall Street adage of “the trend is your friend” and this time around is no different. The use of tight stops within all our trading and investing recommendations at Tradespoon takes much of the guess work out of getting hurt badly if and when the market suddenly turns lower, even for a brief time. Sadly, the majority of investors do not have in place a sell stop discipline and end up suffering the woes of market corrections.
Let’s look out six months, not through a crystal ball, but through the lens of my proprietary ‘always learning’ analytical models and see what the next six months have to hold for traders and investors alike. My models forecast a solid move higher for the SP 500 to challenge 3,000 by the end of June. Trying to predict beyond a six-month time frame is akin to fortune telling because all manner of market changing events can occur and visibility is very limited for all practical purposes.
Yesterday’s move up through 2,700 for the S&P was like a hot knife through butter, led by none other than the financial sector I’ve been touting for the past two weeks. As always, look for entry points within our select names that are highlighted in the ActiveInvestor section for Premium members.
We came into the week highlighting in particular, a diversified financial services company with $44 billion in assets. People’s United Bank, founded in 1842, is a premier, community-based, regional bank in the Northeast with a network of over 400 retail locations in Connecticut, New York, Massachusetts, Vermont, New Hampshire and Maine.