Surging consumer sentiment in January will provide bullish support for stocks for the rest of the year.
That’s the implication of a study published several years ago in the International Review of Financial Analysis. The correlation exists because of when investors typically alter the equity allocations of their monthly 401(k) contributions — that is, how much of their monthly payroll deductions go into stocks as opposed to other asset classes. Though investors can alter that equity allocation at any time, most typically do so just once a year, in January.
As a result, according to the researchers who conducted the study, jumps in consumer sentiment in January translate to increased inflows of cash to the stock market for the remaining 11 months of the year. No such correlation was found for any month besides January.
The study in question, titled “The January sentiment effect in the U.S. Stock Market,” was conducted by Zhongdong Chen of the University of Northern Iowa and Phillip Daves of the University of Tennessee, Knoxville.
The professors discovered this so-called January sentiment effect by analyzing monthly changes in the University of Michigan’s Index of Consumer Sentiment. Since 1978, when the ICS first began to be updated monthly, a big jump in the index from December to January was correlated with above-average returns from February through December — and vice versa.
The January sentiment effect certainly held true last year. The January 2023 ICS reading was 5.2 percentage points higher than it was in December 2022, a monthly jump that was larger than 91% of monthly changes since 1978. The S&P 500
SPX
produced a total return of 18.8% from February through December 2023.
The January sentiment effect is even more bullish for 2024, since the January 2024 ICS was 9.3 percentage points higher than the December reading. That monthly change stands at the 99th percentile of all readings since 1978.
Don’t confuse the January sentiment effect with the January indicator, the discredited indicator that holds that the stock market’s direction in January foretells the market’s direction for the subsequent 11 months. In contrast to the January sentiment effect, the January indicator has no statistical significance (as I recently argued).
The usual qualifications apply, of course. No indicator, including the January sentiment effect, is correct all the time. But it’s comforting to come across a heretofore little-known indicator with a good track record that is as bullish as this one is.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at [email protected].
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