Strong January Portends Positive Year

By David Waddell

As Goes January … Many market observers state that as goes January, so goes the rest of the year. Mathematically, 1/12th of the year has now passed and the S&P 500 has tacked on 5 percent. Fast-forwarding through the statistical modeling, a strong January predicts a strong annual return precisely because of the positive lead January passes to February. This head start advances the probability of positive returns. Furthermore, a sizable head start increases the odds of success even more. If January is slightly positive, the odds of a positive year are 67 percent. If January is up 5 percent, the odds jump to 79 percent. So a 5 percent positive January has a high probability of correlating with a year of positive equity returns. We cannot rest in that, however, as a 4 percent loss from this point still fulfills the criteria. Better check the vitals.

As Goes Earnings … Earnings season has now passed its mid-point. According to FactSet, of the 234 companies that have released fourth quarter earnings, 70 percent have beaten earnings estimates and 67 percent have beaten revenue estimates. Reality to date has exceeded low expectations as earnings and revenues have grown only 4 and 2 percent, respectively. The forward looking guidance has been disheartening. Of the companies that issued forward looking guidance, 50 have guided lower, while 11 have guided higher. In response, analysts have cut their Q1 forecasts down to zero. With reality lackluster, low expectations bode well.

As Goes Employment … The headline from the January jobs number seemed disappointing as the unemployment rate ticked higher to 7.9 percent. However, the net payroll additions tell a brighter tale. The economy added an average of 200,000 jobs a month in the fourth quarter of 2012 meaning job gains accelerated into year end. Will this continue? Most economists expect job growth to average about 150,000 per month for the year but with housing recovering, oil production surging and manufacturing providing surprising lift, the numbers should be better than that. With the jobs picture brightening, consumer spending should fortify. Consumer credit has increased for five straight months and retail sales grew 5 percent in January. Additionally, gains in stocks and home values make shoppers feel more secure. Gains in jobs, lead to gains in spending, which lead to gains in jobs. Momentum in the economy seems to be building and when it does, it often feeds on itself. For now, the economic risk to forecasts appears to the upside and as a consequence estimates are rising.

So Goes the Rest of the Year. Earnings growth expectations falling conflict with economic growth expectations rising. For convergence, either expectations for the economy must fall or expectations for earnings must rise. For economic momentum to build, we need a stable backdrop. Fumbling in Washington, Europe or the Middle East could temper animal spirits, favoring the low expectations for earnings. However, a crisis-free environment, where optimism can build, will favor the higher expectations for the economy. If so … as goes January!

David Waddell, who is regularly featured in the Wall Street Journal, USA Today and Forbes, as well as on Fox Business News and CNBC, is president and CEO of Memphis-based Waddell & Associates.