Investors are watching the Santa Claus Rally get dashed and there’s a seemingly bold sense of optimism that is floating around in the market. That feeling that stocks can’t fall 10-20% because it’s the beginning of the year.
Believe me, I’ve been watching this trend for the last 20+ years, stocks can and do fall and they do it with stunning predictability.
Enough predictability for me to say “January and February are two of the worst months of the year for stocks”.
Does this mean that the stock market is doomed? No.
What it does mean is that you should prepare for a healthy correction in stocks with a few simple steps. I always say that “luck prefers the prepared trader”
Take five minutes to get prepared with me and make your own Market Luck.
Seasonality is one of the most simple and effective “indicators” out there. That’s part of the reason that it does work. Seasonality works even better when there are a few market timing indicators lined up with it, as there are right now.
Over the summer I received a question from a subscriber, asking me “why the months of August and September were so bad for stocks?”.
The answer is a little easier than you probably thought.
Sure, some market commentators will tell you that trading volume drops during these months and that allows for stocks to get more volatile.
Wrong! Weekly volume on the S&P 500, Nasdaq 100 and Russell 2000 indices has been on the rise since July.
Maybe it’s the lack of headlines or “events” since earnings season has died off?
No. It’s much simpler than that.
Seasonality is the result of the market’s “group think”. A sort of “self-fulfilling prophecy that investors just can’t seem to avoid, even though they know it’s coming.
Real investors and traders just accept that it’s coming and put together a plan.
That’s how you beat the market, turn seasonal weakness into your buying opportunity.
Looking back at that August through September seasonality, the S&P 500 dropped 10%, creating an opportunity for investors to buy several stocks at their best prices of the summer.
That’s the Opportunity here, buying stocks for the long-term at value prices.
On average, the S&P 500 gains +0.1% a week over the last 20 years.
For those of you that wonder why I always quote “the last 20 years” on studies like this, it’s simple. Today’s “modern market” acts nothing like the stock markets of 1950, 1970 or even 1980.
The advances in availability of trading, trading data and investing tools has evolved the market into a completely different animal, which is why I focus studies like this on the last 20 years.
What the market did in 1950-1970 has no representation on what the markets do today, just remember that.
I normally talk about “monthly” seasonality. For the last two months we’ve been talking about the fact that the S&P 500 is most volatile and at its worst in terms of performance during the months of January, February, August and September.
Over the last 20 years, January and February have averaged weaker than normal returns, kicking the New Year off with little fanfare.
Drilling deeper into the numbers, January’s returns are so slim that it almost comes down to a coin toss on whether investors make money during the month.
February’s returns… decidedly negative as it is only one of four months to turn in negative average returns.
Just as we’ve seen this year, the market gets tired at the end of its fourth quarter rally. Historically, this is one of the strongest periods of the year, especially after the presidential election in November.
Presidential election years tend to have much stronger rallies in November and December as investors crave certainty, which is exactly what election results give them.
That breakneck rally into the end of the year literally taps investors out as they move money into stocks from the sidelines leaving very little in the way of “dry powder” to move into the market in January.
From there, the seasonality turns into a simple case of self-fulfilling selling. Investors know that the market post weaker returns during this period so when stocks start to slow or slump, they react. That reaction sets the market into a short-term selling spree that usually lasts through late-February.
The selling is more exaggerated when the market is coming off new highs, just as they are today.
January 2022 gives us a great view of what investors should expect over the next six weeks.
Just as with this market, November and December 2021 resulted in strong seasonal performance as the S&P 500 rallied more than 20% in November and December.
Investor sentiment was running high, even though inflation had become less transitory than investors were told by the Fed.
Investors were heading into 2022 with questions about the economy’s ability to avoid a recession and wondering what the Fed’s policy on interest rates would hold.
Sounds incredibly familiar, I know.
The waning days of December 2021 saw some selling pressure as questions and outlooks became challenged, resulting in the markets tripping into January on a weak note.
This began that self-fulfilling seasonality trade that sent stocks lower by more than 15% in the first two months of 2022.
Step one is to remember that every correction provides an opportunity.
The parabolic rally between the elections and the end of the year has put stocks out of reach for many investors. As a result, the buying volume on the exchanges has become considerably light. This is one of the factors that allows prices to drop as quickly as they have over the last week.
Prepare a short list of “Stocks to Buy” including prices that you would like to buy them at, think of this as a shopping list of stocks.
Our latest “Five Stock Watchlist” is a good place to start.
There’s no need to “time” the market, just find a target price for the S&P 500 that makes sense to start buying back into the market.
This is where technical analysis becomes a great tool.
Currently, the S&P 500 is falling below its 50-day moving average. This is the second time that the benchmark index has moved below its 50-day in less than a week, signaling that the market’s momentum is weakening.
A further decline below $580 will trigger defensive and fear-driven selling to the index’s next support level, $550.
That 8% drop would take the SPY shares to significant support that would serve as a great price to start buying some of those stocks off an investor’s “Value List”.
Always be aware that the market could head lower from there. Remember that we’re not trying to time the market, just find good entry points where the odds of a rally are higher.
Historically, March begins to usher more bullish conditions in for the market followed by April, which is one of the strongest performing months of the year.
Keep in mind that the seasonal trends can change based on changes in the economy and earnings. We’ll keep an eye on these trends and keep you informed of changes.
