The S&P 500 has chalked up nearly a 15% return as of late December, not too shabby, especially given the extremely lackluster economic recovery conditions that we've seen here in the U.S. It certainly looks like Santa Claus is delivering another traditional year-end rally for the bulls.
Heading into the New Year, however, the key question for equity traders and investors will be does this rally have legs? Can it continue in 2013? The Stock Trader's Almanac, by Jeffrey and Yale Hirsch, published each year by John Wiley & Sons. is chock full of seasonal statistics and historical market tendencies. The Hirsch's so-called January Barometer is an important stock market indicator with an impressive track record.
HOW IT WORKS
The January Barometer was created by Yale Hirsch in the early 1970's and the indicator has an 88.7% accuracy ratio. The indicator simply states "as the S&P 500 goes in January, so goes the year." Simply put, if the S&P 500 posts a positive return at the end of January that presages stock market gains at the end of 2013. Conversely, a drop in the major average in January would be a negative signal suggesting a down year for stocks.
EARLY WARNING SYSTEM
For those impatient traders looking for early clues on stock market direction in 2013, The Stock Trader's Almanac has detailed its early warning system based on action in the first five trading days in January. If the S&P 500 posts gains during the first five trading days, the bulls will be celebrating as "the last 39 up First Five Days were followed by full-year gains 33 times for an 84.6% accuracy ratio and a 13.6% average gain in all 39 years," according to The Stock Trader's Almanac.
There is also a widely known and watched four-year presidential cycle and its impact on the stock market. The theory behind this four-year cycle is that a newly elected president tries to push through as many policies as possible during the first two years. Sometimes these can have negative ramifications for the economy. But, as the old saying in Washington goes—"presidents would prefer to have their recessions early than late."
By the third year of a president's term, the White House and the party in power attempts to "prime the pump" with various domestic infrastructure programs and other policies designed to jumpstart economic growth and thus triggering bull markets in stock prices. There have been no losses in the third (pre-election) year of a president's term since 1939, yet the post-election year is the worst performing year for stocks in the four-year cycle, according to Stock Trader's Almanac data.
DECADE LONG RESISTANCE
The U.S. stock market, as measured by the S&P 500 is with 100 points of decade long resistance at the 1550/1575 zone. Even if a fiscal cliff deal is reached in Washington, there are some negative economic ramifications expected to weigh on growth. For example, an extension of the 2% Social Security payroll tax cut is not expected to emerge in a final deal.
That means Americans will see smaller paychecks at the start of the year.
These payroll taxes are used to fund Social Security (and are sorely needed with a trust fund on a path for bankruptcy), but the temporary payroll tax cut was instituted two years ago in an attempt to stimulate consumer spending and economic growth. Economists believe this type of tax cut has a direct economic impact, as the extra money in individual's paychecks tends to be spent. JP Morgan Chase has estimated the drag on consumer spending could subtract 0.6% from GDP in 2013.
Bottom line? An unexpected surprise is likely for most Americans in their first paycheck in January, deal or no deal and that in and of itself could slow consumer spending, which of course makes up about 70% of the US economy.
With major decade long resistance looming for the S&P 500, the prospects of higher taxes for working Americans, and the first year of a U.S. president cycle, the stock market has some odds stacked against it for 2013.
But, keep a close watch on the January early warning system and the January Barometer as these could offer tradable clues on the direction for U.S. equities next year.
By Kira Brecht, managing editor at www.TraderPlanet.com
Would you like to see more third-party contributors on DailyFX? For questions and comments, please send them to email@example.com
DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.
Learn forex trading with a free practice account and trading charts from FXCM.