Our historical playbook analysis of what happens after the S&P 500 has outsized gains in January has worked every month this year except May when trade concerns spooked markets. Overall, abnormally strong January returns have been a historically clear signal about market direction in the following months and July 2019 further affirmed that trend.
Here’s a reprise of how the S&P has performed during the first half of 2019 as compared to our “Strong January Playbook”:
- January: The S&P 500 rose 7.9% during the first month of this year, which is one standard deviation above January’s average return of 1.2% since 1958 (first full year of data).
There’s only been 8 other Januaries that have also returned +1 standard deviation above the average, or 15% of the time: 1961 (+6.3%), 1967 (+7.8%), 1975 (+12.3%), 1976 (+11.8%), 1985 (+7.4%), 1987 (+13.2%), 1989 (+7.1%), and 1997 (6.1%).
- February and March: The S&P finished higher 75% of the time in both February and March of those 8 years after an outsized January return. The average return in February was +1.2% for said years versus +3.0% this year. The average return in March was +1.5% compared to +1.8% this year.
- April, May & June: The S&P gained an average of +2.2% in April and was positive in +60% of those 8 years. This April beat the average, up +3.9%.
May was the first month when our “Strong January Playbook” veered off course. Out of those 8 years (prior to 2019) with a strong January return, the S&P was up 1.9% on average in May and had only been negative twice. The S&P fell 6.6% this past May.
(As a side note, both previous two years when the S&P ended in the red in May (1967 and 1976) finished the year higher by 24% on a total return basis.)
Our playbook got back on track in June. The average return during this month was 2.1% in years with a big January performance and the S&P ended higher 75% of the time. This year, the S&P was up 6.9% in June after recovering losses from the prior month.
Bottom line, four out of five of those months worked in line with historical averages, and we can now add July to the list. Here is what happened in July and how the balance of months ahead should perform based on years with especially large January returns:
- July (good): The average “strong January” return is +2.7% and the S&P was up +60% of the time. With July now in the books, the S&P’s price return was 1.3%.
Of course, today’s down 1.1% day put a dent in that figure after the Fed cut near-term rates by 25 basis points. At yesterday’s close, the S&P was up 2.4% for July, not too far from the average. Even still, we’ll take a positive month given that the S&P is higher by 18.9% YTD.
- August (bad): The average “strong January” return is negative 0.5% and the S&P has been down +60% of the time. The worst return was -5.7% in 1997 and the best was +3.5% in 1987.
- September (bad): The average historical return is negative 0.1% and the S&P was lower +60% of the time. The weakest return was -3.5% in 1985 and the strongest was +5.3% in 1997.
- October (really bad): The average historical return is negative 2.5% and the S&P was down +60% of the time. The lowest return was -21.8% in 1987 and the highest was +6.2% in 1975.
- November (good): The average historical return is +1.3% and the S&P was higher 75% of the time. The worst return was -8.5% in 1987 and the best was +6.5% in 1985.
- December (really good): The average historical return is +2.8% and the S&P was higher 88% of the time. The weakest return was -1.2% in 1975 and the strongest was +7.3% in 1987.
Clearly our “Strong January Playbook” takes a turn for the worse in August through October. It’s no coincidence the VIX has peaked for the year the most in August and October since it was created in 1990. Those two months usually see more market churn and, in this case, lower returns. That said, the S&P typically salvages the year in November and December, the latter of which is the quietest month of the year with the VIX having troughed 8 times during December.
Even with a pickup in volatility heading into the fall, here’s how years with strong Januaries perform overall:
- Every “strong January” year except 1987 saw double digit annual total returns for the S&P: 1961 (+26.6%), 1967 (+23.8%), 1975 (+37.0%), 1976 (+23.8%), 1985 (+31.2%), 1987 (+5.8%), 1989 (+31.5%), 1997 (+33.1%).
The average total return for these years is 26.6%. This year, the S&P is up 18.9% YTD.
- The earliest month when the S&P reached its high for the year was in mid-July 1975, followed by late August in 1987.
The rest of years peaked in September or the fourth quarter. The S&P reached its highest level in September during 1967 and 1976. It also hit its high in early October during 1989, and peaked in December in 1961, 1985 and 1997.
The upshot: the 8 years with abnormally strong January returns mostly occurred in mid-to-late cycle periods, like where we are now. We still expect the S&P to end in the green this year, but today gave equity markets a taste of the volatility to come as investors game future Fed action and assess expectations for corporate earnings over the next few months. That, along with ongoing US-China trade talks, and you have a recipe for a few rough months to come.