In this gift-giving season, investors who track stock patterns are hoping the market will offer a nice, fat present.
Historically, the month of December has been the year's best, and January has been close behind.
Even more tantalizing, December's last five trading days and January's first five, a time when some people are too busy to think much about the stock market, often represent one of the strongest periods for stock gains.
Of course, these aren't ordinary times, and that is why people are watching year-end stock movements particularly closely now. If the stock market behaves as it usually does and rises sharply, giving everyone a nice gift, investors may turn more optimistic about 2009. If the market struggles, fear will spread that another tough year could be ahead.
Investors were shocked by what happened a year ago, when stocks didn't exactly follow the historical pattern. The Dow Jones Industrial Average celebrated last Christmas with a 1.4% drop in 2007's final five trading days. It rang in the new year by sagging another 5.1% in the next five days.
That performance was entirely out of whack with the past. Since 1901, the Dow has averaged a 1.1% gain in the old year's final trading week, and a 0.6% advance in the new year's first trading week, according to Ned Davis Research. That is far above the performance for an ordinary five-day period during the year, when the Dow typically is up about 0.1% (reflecting the fact that stocks, on average, trend gradually higher).
After stocks started 2008 so badly, investors couldn't claim they weren't warned. At Friday's close, with just seven trading days left this year, the Dow was down 35% in 2008, at 8579.11, including a 2.8% drop in December.
The much-watched 10-day period begins on Christmas Eve this year and continues through Jan. 8.
Here is why it ordinarily is so strong. In mid-December, tax-conscious investors look through their portfolios for stocks they can sell at a loss, to offset gains on stocks they have sold at a profit. (Even stocks that have fallen may still show gains since the date of purchase, so people who sold during this year's market declines may still face capital-gains tax.)
Tax-loss sales can depress stocks in mid-December, especially small stocks that are thinly traded. But by Christmas, most people have finished their tax-loss selling. Then they start putting the money back into the market.
People also invest late in the year to bet on a New Year infusion of cash into various retirement accounts, which, in normal years, helps push stocks higher. In addition, some professional money managers put cash to work at year's end in an effort to push up portfolios temporarily and improve their performance numbers, a practice known as window dressing.
If all this doesn't boost stocks over the 10-day period starting around Christmas Eve, it is a sign that something is wrong.
'When that buying fails to appear in January, it means investors are making a very conscious decision NOT to buy. Januarys are usually up; when they are not up, probabilities are very high for a difficult (read: down ) year,' Phil Roth, chief technical market analyst at New York brokerage firm Miller Tabak, wrote in a report to clients.
That is what happened this past year, and it is what investors are very much hoping to escape now.
While the 10-day period is a good indicator of how worried investors are, some analysts note that the full month of January has historically been an even more reliable pointer to performance for the rest of the year. If stocks haven't moved into the black by January's end, it is an even worse sign.
Since 1901, stocks have done much better in the 11 months following January gains than in the 11 months following January declines, and that has been especially true since 1950.
When the Dow has risen in January, it has gained an average 9.8% from February through December, according to Ned Davis data since 1950. When it has fallen in January, it has risen only an average of 1.6% afterward, and in many of those years it has fallen in the months after a bad January. The average performance for all February to December periods since 1950 is a 7.1% gain.
The January indicator is hardly foolproof. In 2001, the Dow rose slightly in January and then slumped 8% in the rest of the year. The indicator failed in 2003 and 2005 as well, when the Dow fell in January and rose in the rest of the year. But it has been on the money in the past three years.
Some analysts worry that even if Santa is kind this coming January, investors should brace themselves for a rocky 2009.
'I think we will have a decent finish to the year,' says Russ Koesterich, head of investment strategy at Barclays Global Investors in San Francisco. Investors have accepted the idea that the economy will be bad, and they are pleased that the U.S. Federal Reserve is pulling out all the stops to support the financial system. In January, Mr. Koesterich says, hopes for the new Obama administration's stimulus package could help stocks.
Then, the reality of the bad economy, a still-troubled financial system and problematic corporate profits could kick back in.
'Can the market rally? Absolutely. Will it last? Probably not,' Mr. Koesterich says.(E.S. BROWNING)
