Easy come, easy go
The Reddit rebellion forces an adjustment to the January Barometer.
Bottom Line One of our favorite Wall Street axioms is “bulls make money, bears make money, pigs get slaughtered.” Piggish investors trying to make the most money in the shortest time frame are thought to overlook risks, make rash decisions and execute strategies without due diligence. When trading against seasoned professionals, pigs usually get butchered.
Painful round trip That was never more evident than over the past few weeks, as retail day traders on social media such as Reddit’s WallStreetBets coordinated their buying on Robinhood Markets’ online brokerage platform to purchase heavily shorted (140%) and thinly traded small-cap stocks like GameStop Corp. The plan was for this gaggle of little guys to collectively stick it to the man, and many large hedge funds eventually threw in the towel, forced to cover short positions at a loss.
The Lilliputians’ strategy worked…until it didn’t. From $39 per share on Jan. 20, GameStop surged an astounding twelvefold to $483 on Jan. 28. But over the past nine trading days, it has plunged 90% to $50. Bacon and ribs, anyone?
Exogenous trading noise This temporary dislocation spilled into the broad financial markets. After hitting a record high on Jan. 20, the S&P 500 fell more than 4% over the next seven trading days (as GameStop was soaring), marking the equity market’s deepest losing streak since October. Over this same period, the volatility index (VIX) leapt from 21 to 37 and back to 21. Benchmark 10-year Treasury yields declined from 1.11% to 1.01%, then rose to 1.16%.
Ultimately, financial markets trade on fundamentals. So, when the dust eventually settled from the Reddit, Robinhood and GameStop fiasco, the temporary valuation imbalances were corrected. As the legendary Oracle of Omaha, Warren Buffett, once said, “It’s only when the tide goes out that you learn who has been swimming naked.”
Quirky January Barometer in 2021 On the surface, the S&P suffered a negative January, falling 1.11% on a price-only basis (down 1.02% on a total-return basis). Ordinarily, that would auger a potentially difficult full year for stocks. But because of their quirky decline at the end of January and sharp surge at the beginning of February related to the aforementioned trading noise, we need to make a tactical adjustment to January’s full-month performance.
The January Barometer remains one of the stock market’s most widely followed rules of thumb. Historically, as the month of January goes, so goes the full year. Since 1950, Jeffrey and Yale Hirsch at the Stock Trader’s Almanac report that when the S&P started a new year with a positive January, stocks ended the year in positive territory 88% of the time (38 out of 43 times). But when January is negative, the odds of a positive full year are a coin flip (14 out of 28 instances).
January adjustments The S&P started this year with a strong rally. From Dec. 31 through Jan. 21, it rose 2.58% on a price-only basis (2.66% total return). But from that point through the end of the trading month on Jan. 29, the index fell 3.6% (-3.58%). It has gotten back on track in February, soaring 5.42% (5.45%) in the first six trading days through Feb. 8.
Adjusting for the Reddit rebellion and the GameStop roundtrip and creatively thinking of Feb. 8 as Jan. “39”, the S&P has rallied 4.25% (4.37%) since the beginning of the year.
That’s a pretty good start, but it’s not unprecedented. Over the past 71 years, there have been 22 instances (31% ) in which the S&P has started the year with a price-only rally of 4% or higher (ranging all the way up to a January gain of 13.2% in 1987). Over the ensuing full year, the index has ended the year in positive territory 21 times (95%), with an average gain of 21.4%. That’s right in line with our full-year target price of 4,500 in 2021, which implies a gain of 20%.
What are the best sectors to own in 2021? The January Barometer Portfolio indicator also holds that the best- and worst-performing S&P sectors in January tend to follow that performance trend the rest of the year. Below are the 11 sectors, sorted by their total-return performance from Dec. 31, 2020 through Feb. 8, 2021. The results favor cyclical stocks over defensives, as the economy and the financial markets recover from the deepest recession in history:
- Energy, 17.1%
- Consumer Discretionary, 6.84%
- Telecommunication Services, 6.27%
- Financials, 6.12%
- Information Technology, 5.05%
- S&P 500, 4.38%
- REITs, 3.81%
- Materials, 2.23%
- Health Care, 2.08%
- Industrials, 1.31%
- Utilities, 0.59%
- Consumer Staples, -2.3%