The S&P 500 index climbed 4.4% this January. According to the Trader's Almanac, after a positive January the S&P 500 has scored an up year 88.5% of the time since 1950. When you look at the first five weeks of this year, the gain was just under 7%, the best beginning since 1987. (Of course, that year had, challenges, with the October massacre shaving 20% from the S&P 500.).
"I believe that investors are like dieters, they look to January for a new beginning," Sam Stovall, chief investment strategist for S&P Capital IQ, says.
Here's even better news for financial advisors. Back-testing shows the so-called January barometer has been right more than wrong since 1990. If an investor watched the performance of the S&P 500 in January, then on February 1st bought and held the three best-performing sectors for the next 12 months, he would have beaten the market 60% of the time since 1990. This winning percentage also holds true for the top 10 industry groups in the S&P 500. Since 1990, the entire S&P 500 has notched a compound annual rate of growth of 6.6% from February 1 to February 1. By comparison, January's top three sectors notched gains of 8% in that time, while the month's 10 best performing industries climbed 13.1%.
Financials, materials and technology were the three sectors that shone in January. Stovall isn't surprised. These three were among the most beaten down in last summer's strong sell-off, and investors typically gravitate toward oversold sectors when they feel confident enough to start buying again.
That brings up this question. Is this the start of a new bull market? Stovall says yes. He points to these early bull market characteristics: stocks are beating bonds, small caps are outperforming large caps and high beta is leading low beta, and cyclical sectors—like financials, materials and tech—are trumping defensive sectors.
But, with the European debt crisis dragging into its third year, investors could be forgiven for being skittish about embracing financials. Stovall admitted this is a problem with the January barometer. Stock prices tend to lead fundamentals by about six months, so when investors try to make a fundamental case for why a sector is doing well, it often will not stand scrutiny. Operating earnings for the S&P financial sector this year are expected to climb 9%, versus a gain of 7% for the broader index. "So it looks good, but not terrific," Stovall says. "But because it seems as if the earnings picture is expected to make a recovery, that's why investors took a chance on financials , with the belief that the fundamentals will follow."
Turning to materials, the sector had strong earnings in 2011, even though all the companies have not reported earnings yet, the estimate is for a 32% gain in 2011. Stovall muses that the sector could have been sold off so severely over the summer because investors were anticipating a global recession with the European debt crisis and the possibility of a hard landing in China. Now, although Europe's future is still up in the air, it appears China will be in for a soft landing. Plus, each successive US economic report seems to reassure investors. As a result, demand for materials appears to be turning around.
Tech earnings are expected to rise 8% this year versus 7% for the entire S&P 500. Still, the sector is trading at a discount to the S&P 500 as well as its own expected earnings growth relative to the S&P. Stovall chalks their top performance in January up to investors accepting the premise that markets are starting a bull run, and selecting their favorite cyclical sector. Tech won because it represented a good value after being so sharply oversold.
Tom Roseen, head of research services at Lipper, says although he is sanguine about the U.S. economy and world stock markets in 2012, he is still warning investors to keep their expectations in check. "We've had no resolution to the European debt crisis, and even though we've had really good returns, I'm concerned that they won't have longevity," he says. "We'll have fits and starts. There will be certain times this year you sit on the sidelines."
Fortunately, Stovall says it is not too late to pick up January's cues. "Buying in at the end of February or early March is probably better than buying at the end of January because you typically see some digestion of previous gains," he says.