The January-Effect 2011 Market Outlook
Following last year's mid-term elections the Republicans have gained control of the House of Representatives while the Democrats maintained the Senate. The evenly divided Congress could go well for the financial markets as gridlock affects tax and accounting-related issues due to the Republicans win.
The January–Effect is a pattern of price behavior within the financial markets that takes place following the Santa Claus Rally in December. Financial institutions and investors take profits from the following year to lock-in gains before the current year's tax season. Small-cap stocks outperform the broader market due to investors maximizing their IRA and 401(k) contributions early in the year. January also jumps start various portfolio reconstitutions as institutions and investors see the best place to put their investment dollars following other economic announcements.
January also releases earnings from the fourth quarter ending December 2010. These corporate earnings will affect various market sectors as these company announcements will be competing for investments such as increasing dividends or stock splits.
The FOMC Announcement is expected at the end of the month which will be left unchanged. As long as unemployment is still high and the housing sector continues to be depressed the FOMC will keep rates unchanged for an extended period.
An excellent indicator for the direction of the market is the Market Volatility Index. The Chicago Board Options Exchange (CBOE) Market Volatility Index (VIX) measures options activity within the markets and is widely used tracking investment sentiment for the S&P 500. A common trading strategy for traders and investors include a VIX level of 30 or above which means an immediate switch from equities to cash. Traders and investors are retreating from the markets and finding safety and protection within Treasuries, gold, and the dollar when the VIX is trading above 30.
Last May the VIX traded above 45 following another seasonal trend of "Sell in May and Go Away." Last June while the VIX was trading above 30, the S&P 500 hit a 2010 yearly-low of 1010. The dollar increases against major currencies as equities are switched to cash. Lower commodity prices have been affected by the increase of the dollar such as metals and energy prices. We may see commodity prices come down from their highs in January as the dollar gets stronger.
Gold does not necessary follow this trend since it is also an alternative investment from equities. Indian festivals and the wedding season run from late September to December pushing gold prices higher. While gold imports increase as jewelers stockpile in India, the "Sell in May and Go Away" seasonal trend in the United States push gold prices even higher as investors rush to safety away from equities. Gold should stabilize in January as investors take profits from their recent gains before continuing higher.
January marks the season of planning for institutions, investors, and traders for the New Year. Next year is an election year so presidential candidates will be campaigning for votes and dollars this year. The markets should see a substantial return as tax and accounting issues are gridlocked by a lame-duck President and Congress.
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