Will the ‘everything rally’ last?

As we move to the final few trading days of the year, the question is, can the rally in financial markets be sustained? Can stocks and the gold price move higher, and will the dollar continue to fall? There is one consideration that traders should consider before making rash trading decisions at that start of the year: the ‘January Effect’.

This is a phenomenon, whereby stocks tend to rise in January and risk sentiment overall remains strong. However, is the January effect a myth or a reality? The analysis on the legitimacy of the January effect focuses on the US indices, including the S&P 500 and the Dow Jones Industrial index. One of the conclusions for the long-term research on the January effect, is that the performance of US stocks in January is a signal for how the stock market will perform for the rest of the year. However, analysis suggests that this theory does not hold up. Analysis from 1926 – 2018 found that a negative return for the stock index in January was followed by a positive return for the following 11 months of the year 60% of the time, with an average return for the subsequent 11 months of the year of 7%. Thus, a bad January is not a sign that the rest of the year will be negative for stocks.

Looking at the January effect more closely, between 1927 and 2001, the market performed much better in the month of January than any other month of the year. There are some logical reasons why stock markets would perform better in January compared to other months. For example:

-       Tax loss harvesting – where investors sell their losing stock positions in December to realise losses and offset them on their tax returns, and then buy stocks again in January.

-       Portfolio rebalancing – the start of the year can be a good time to rebalance a portfolio, after cutting loss making positions before Dec 31st, which can help boost stock market returns at the start of the year.

-       New Year Investing Resolutions – some people may choose to invest in the stock market at the start of the year, which can generate buying pressure in January.

Thus, as you can see, a mixture of calculated financial moves and investor psychology, can have a big impact on financial markets at the start of the year.

So, there is a logical explanation that stocks might rally in January, and that this can boost overall risk sentiment, but after this December’s ‘everything rally’, what will happen in January 2024? We do not have a crystal ball, and we would remind all of our readers that past performance does not indicate future performance. Instead, we prefer to use historical performance as a mere guide, since we all know that history rhymes rather than repeats itself. The latest data shows that there is a large variance between the performance of stock markets for January over the last 20 years. Thus, one could argue that the market has become more efficient at swallowing up the “January effect” for markets and also that other factors are at play that can distort this seasonal pattern.

Thus, to conclude, if you have a good January from a trading perspective, this does not mean that you will have positive returns for the rest of the year, and if you have a bad trading experience in January, this does not mean that the rest of the trading year will be negative for you.

In terms of the longevity of the “everything rally” that we have witnessed in December, there are multiple factors that could determine if that lasts or not, for example economic data and central bank commentary in the coming weeks. While seasonal patterns can be a fun way to view the market, the January effect should not be over emphasized in your trading, and seasonal patterns are not reliable indicators of future trading performance.