The January barometer has proven accurate roughly three-quarters of the time throughout history. This pattern suggests a positive January typically leads to a positive full year. Many investors might have heard this popular market saying as they plan their investment strategy each new year.
A closer look at the January barometer for the stock market reveals intriguing patterns. Research shows that returns after a positive January exceeded those following a negative one by more than ten percentage points. Brown and Luo’s research found that January was a better month for making predictions than other months from 1941 to 2002. But more recent and detailed research challenges this perspective. The effect vanished completely after researchers expanded the timeframe to 1926-2012 instead of using narrower windows from earlier studies. On top of that, studies across 14 to 19 countries showed the effect remained valid in just two or three cases.
Expat Wealth At Work explores whether investors can rely on the January barometer as a predictor or if it’s just another market myth.
What is the January Barometer?
The January Barometer offers a simple but fascinating market hypothesis. It suggests that stock performance in January predicts how the market will behave for the rest of the year. The basic contours are straightforward – if the S&P 500 ends January on a high note, the market will likely finish the year higher too. The opposite holds true when January shows negative returns.
The term “January Barometer” originated from Yale Hirsch in 1972
Yale Hirsch came up with the term “January Barometer” in 1972 while writing Stock Trader’s Almanack. His theory came from watching market patterns and looking for predictive indicators. Some sources say the almanack came out in 1967, but most reliable sources point to 1972 as the year Hirsch officially introduced this market concept.
The theory caught on with many people in financial circles during the 1970s. It became a prominent piece of market folklore that investors and financial media bring up at the start of each year. The concept’s popularity grew because historical data seemed to back it up, which appealed to traders who wanted simple market timing strategies.
The January Barometer claims to predict the market direction for the entire year
The January Barometer works on a simple idea: “As goes January, so goes the year.” The hypothesis states that an S&P 500 rise in January means the market will keep going up for the rest of the year. Believers think a January drop signals a market decline in the months ahead.
Looking at history, the January Barometer seemed quite reliable for many decades. Between 1950 and 1984, it showed impressive accuracy – about 70% for positive outcomes and 90% for negative ones, with an overall success rate of 75%. Recent supporters point to even better numbers, saying the indicator was wrong only 11 times between 1950 and 2021, suggesting it’s right 84.5% of the time.
Supporters think January’s predictive power comes from key events happening during this month. A new Congress starts its session; the President gives the State of the Union address, presents the annual budget, and lays out national goals and priorities – all of which could affect economic direction. Since 1950, years with positive Januarys have typically delivered an average annual S&P 500 return of 17%, while negative Januarys average a -1.9% return – that’s a big performance gap.
Notwithstanding that, critics say this pattern might just reflect U.S. equity markets’ general upward trend. U.S. equities showed positive annual returns about 70% of the time from 1945 to 2021, which suggests the January Barometer might just be picking up this natural tendency rather than offering any special insight. This criticism gets stronger when you look at data from 1985 to 2010, when the barometer’s negative predictive power dropped to 50%—making it nowhere near as useful as it once was for negative predictions.
January Effect vs. January Barometer
Many investors discuss the January Barometer when each year starts. They often mix it up with another market pattern called the January Effect. These market theories describe two entirely different ideas that mean different things for investors.
The original January Effect: small-cap performance
The January Effect happens when stock prices go up in January. Small-cap stocks feel this rise more than others. Investment banker Sidney Wachtel first wrote about this market pattern in 1942. The price increase happens in January and doesn’t tell us anything about future prices.
Small-cap companies see bigger price jumps than mid-sized or large companies because fewer people trade their stocks. Research on market data from 1904 to 1974 showed that January returns were five times higher than other months. A study by Salomon Smith Barney looked at stocks from 1972 to 2002 and found that small-cap stocks did better than large-cap stocks in January.
Most experts say tax-loss harvesting causes this pattern. Investors sell stocks that lost money at year-end to pay less in taxes. They buy these stocks back in January, which drives up prices. This trend affects small-cap stocks more because people sell them off more.
The barometer as a forecasting tool
The January Barometer works differently from the January Effect. It uses the S&P 500’s direction in January to predict how the market will do for the whole year. People who believe in it say that if stocks go up in January, they’ll likely end the year higher. A decline in the S&P 500 during January indicates a challenging year ahead.
This predictive tool looks to the future, and many market watchers trust it. They point to its track record – only 11 wrong calls between 1950 and 2021, making it 84.5% accurate. Years with positive Januarys were even more reliable, with just four major misses out of 51 years. These years saw average gains of 16.0%.
The barometer might work because important things happen in January. New Congress members take office, Presidents give State of the Union speeches, and analysts release yearly forecasts. These events can set the market’s direction.
Why the two are often confused
People mix up these ideas because both have “January” in their names and happen early in the year. News coverage at the start of each year often adds to this confusion.
The main difference is what they do. The January Effect is a measurable return anomaly that shows up in January and hits small-cap stocks hardest. The January Barometer is a predictive tool that tries to forecast the whole year based on January’s results.
These concepts serve different purposes. The January Effect might help you trade in January, especially with small-cap stocks. The January Barometer helps investors make longer-term decisions based on how January turns out.
The timing has changed too. The January Effect now often shows up in December. Traders try to get ahead of the expected January move. The January Barometer still depends on January’s performance for its predictions.
Note that both ideas face growing doubts from researchers. Markets have become more efficient, so the January Effect isn’t as strong as before. The January Barometer’s success might just reflect that markets usually go up, rather than any real forecasting power.
What the Early Research Said
Early research strongly backed the January barometer with real market data. The numbers showed what traders had seen in practice, and this gave academic backing to this market timing strategy.
Key findings from Cooper, McConnell, and Ovtchinnikov (2006)
Cooper, McConnell, and Ovtchinnikov did one of the largest studies of the January barometer. They looked at stock market returns over 147 years, from 1857 through 2003. They called their work “The Other January Effect” to set it apart from the regular January Effect, revealing clear patterns. They found that returns in the 11 months after positive Januarys were much higher than those after negative ones. The difference was substantial at -7.76%. So investors would have done better by investing after positive January returns.
Their research showed something interesting: even when January was negative, the market still went up by 5.71% on average over the next 11 months. The team showed this pattern held true both before (1857-1939) and after (1940-2008) Hirsch’s original study.
Support from Brown and Luo (2004)
Brown and Luo’s 2004 research added more proof. They studied NYSE equal-weighted stock index data from 1941-2002 and verified both the January effect and what they called “a new type of January effect”. Their work showed that January’s returns predicted the next 12 months better than any other month.
Their study backed the January barometer’s value, especially as a warning sign. Brown and Luo suggested investors should avoid the market after a down January. However, they noted that an up January didn’t always mean you should buy for the next 11 months.
Why did these studies seem convincing?
The early studies made sense for several beneficial reasons. They used data going back more than a century, which gave their findings real weight. The patterns worked in different time periods and market conditions, which suggested the phenomenon wasn’t just chance.
The return differences were difficult to ignore, particularly the nearly 8% gap identified by Cooper’s team. Results stayed consistent across different indices like the NYSE and S&P 500.
Russell Fuller had already proven in 1978 that the January Barometer correctly predicted full-year results 81% of the time between 1929-1977. Going back to 1898, it was right 71% of the time.
Why the January Barometer Fails Today
Modern research challenges the January barometer’s reliability as a market forecasting tool, even though it was popular historically. What seemed like a market truth has turned into a statistical mirage over time.
Newer studies with broader datasets
Looking at extended timeframes shows the January barometer’s predictive power weakens when tested more thoroughly. While earlier studies concentrated on specific periods with strong correlations, broader research presents a different perspective. The barometer’s predictive power has weakened in recent decades. Mark Hulbert, editor of the Hulbert Financial Digest, studied Dow Jones Industrial Average returns from 1897 through 2008. He found the market rose by an average of 0.25% in the remaining months, whatever January’s performance. The effect that looked strong from 1950-1970 and 1980-2000 has almost vanished in the 21st century.
International evidence and cross-month comparisons
The January barometer is not exclusive to U.S. markets. Australian equity returns from 1974 to now show that average market returns after negative January performance (5.8%) were slightly higher than those following positive January performance (5.6%). February and March show similar predictive results, suggesting January isn’t special. Some research suggests November and December might be better at predicting market performance than January.
The data-mining and base rate fallacy
We mainly used the barometer because markets naturally tend to go up. U.S. equity markets generated positive annual returns about 70% of the time from 1945 to 2021. Any “predictor” would look successful by always forecasting upward movement. This phenomenon represents a classic base rate fallacy where analysts focus on conditional probabilities without considering the markets’ overall upward tendency.
This approach does not assist investors in outperforming the market
The strongest case against the January barometer comes from performance studies. Strategies based on this indicator (called OJE or “Other January Effect”) don’t produce returns that are different from simple buy-and-hold approaches. On top of that, their Sharpe ratios (risk-adjusted returns) can’t match passive investing. Modified versions of these strategies still fail to beat the market after accounting for risk.
Why the Myth Still Lives On
The January barometer remains a persistent piece of financial folklore despite mounting evidence against it. Several factors beyond raw data explain its remarkable staying power.
Media incentives and annual storytelling
Each January, financial media outlets resurrect the barometer narrative with remarkable consistency. The calendar reset creates perfect storytelling opportunities. Audiences seek market guidance right when catchy phrases like “As goes January, so goes the year” grab headlines. Financial media knows prediction-based content boosts reader interest, yet rarely checks back to verify accuracy.
The psychological appeal of fresh starts
Our natural tendency to see new beginnings as meaningful fuels the January barometer’s appeal. Rebecca Walser, named a top advisor by Investopedia, sees the phenomenon as having “much more to do with human psychology than tax loss harvesting.” New year optimism triggers investment biases and leads investors to take bigger risks as they act on annual resolutions. This “fresh start effect” creates behavioural patterns that temporarily boost market movements.
Confirmation bias and selective memory
The barometer’s success stems from basic market dynamics. Markets typically rise about 70% of the time, so any upward-biased indicator looks accurate. People remember successful predictions, while failures fade away quickly. The January barometer might simply reflect confirmation bias that makes investors feel more knowledgeable than they actually are.
Final Thoughts
People’s tendency to find patterns where none exist shows up again in the January Barometer theory. This simple and historically backed idea seems appealing. Yet modern research shows its predictive power is nowhere near as strong as claimed earlier. Markets naturally trend upward, which explains the barometer’s apparent accuracy rather than any real forecasting powers. Markets rise about 70% of the time regardless of what January does.
Long-term investors should stick to proven principles – diversification, proper risk management, and patience through market cycles. Risk-adjusted returns show that January Barometer strategies don’t beat simple buy-and-hold approaches. The theory loses more credibility because international markets don’t support it either.
This market myth lives on because financial media picks up on appealing stories without thorough investigation. Financial journalism runs on yearly prediction content that grabs attention. You can watch the January barometer predictions roll in with a knowing smile. The commentators won’t reveal the truth, as their thermometer has never proven accurate.
Your investment decisions need stronger foundations than seasonal indicators or timing strategies. Stick to fundamental investment principles backed by academic research. The January Barometer teaches us to separate financial folklore from evidence-based investing. Market myths will definitely keep making headlines each year, but smart investors know better than to trust catchy calendar rules.
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