1. Market Perspective – January 2019
Experience Insight Impact
Overview: As subscribers to a data-driven approach to investing, we relish the opportunity to
review economics, earnings, and general market information in order to form long-term
investment views and portfolio allocations for clients. Global markets sometimes ignore data,
however, and express the behavior of living beings. This is due to powerful forces embedded in the
concept of “behavioral finance.” Humans, with emotions and sporadic illogical behaviors, are
continuously influencing markets (although perhaps less so today than in the past). This allows
many market anomalies to take hold and perpetuate the belief that they are in force. This month,
we reintroduce several previous slides to review this concept in light of the sharp decline and
recovery experienced in markets over the past few months.
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2. Behavioral Finance
Experience Insight Impact
Source: https://www.investopedia.com/terms/b/behavioralfinance.asp
What is Behavioral Finance?
Behavioral finance, a sub-field of behavioral economics, proposes psychology-based
theories to explain stock market anomalies, such as severe rises or falls in stock
price. The purpose is to identify and understand the reasons people make certain
financial choices. Within behavioral finance, it is assumed that the information
structure and the characteristics of market participants systematically influence
individuals' investment decisions as well as market outcomes. There are several
main aspects of behavioral finance but here, we will focus on a select few of them.
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3. Herd Behavior
Experience Insight Impact
Herd Behavior is the tendency for individuals to mimic the actions of a larger group. This generally
occurs because there is a strong pressure in society to conform. Another major factor is the false view
that the more people buy into a decision, the more likely it is to be correct.
Source: Franklin Templeton, Tulipmania Dec. 1634 - May 1637: Thompson, Earl A. “The tulipmania: Fact or Artifact?” Public Choice, 2007; Roaring ‘20s Dec. 1924 - Nov. 1929: Dow Jones Industrial Average;
Dot-Com Jan. 1997 - Oct. 2002: NASDAQ Index; Real Estate Jan. 2002 - Mar. 2012: Case-Shiller Housing Index., https://www.isaiahhankel.com/how-to-avoid-groupthink-and-destroy-your-herd-mentality
• “I will tell you how to become rich…Be fearful when others are greedy. Be greedy when
others are fearful.” - Warren Buffett
• “As contrarians, the only thing to fear is the lack of fear itself.” - Bernie Schaeffer
How to Avoid Herd Behavior:
• Know YOUR position and views.
• Get comfortable being in conflict.
• Disagree before you agree.
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4. Anchoring
Experience Insight Impact
Anchoring is a concept in the investment world in which investors may base their decision making on
irrelevant numbers and statistics, such as a large price drop in a stock. The investor would “anchor” on
the recent highs, believing that a stock simply being down is a reason to buy, when in fact there are
likely many circumstances surrounding the drop in price (customer loss, management change, etc.).
Source: https://getricher.in/2014/behavioural-finance-anchoring-bias/, Charles Schwab % Co.
Tools to Avoid Anchoring:
• Acknowledge Bias: Look forward and accept that the past
is history.
• Set Independent Anchor: Establish a new anchor and set
parameters in advance when possible, while allowing
flexibility in the approach.
• Consider History: Use history as a guide and tailor up or
down based on independent research.
• Take Advantage of Objective Resources: Thorough research
using expert views can help mitigate.
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5. January Effect
Experience Insight Impact
The January Effect is a seasonal increase in stock prices during the month of January.
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6. January Effect: Recent Performance
Experience Insight Impact
However, recent S&P 500 performance during the month of January has been mixed, especially since the crisis in
2008. January 2015 and January 2016 also produced losses in excess of 3%. January 2018 and year-to-date 2019
returned greater than 5%. In reality, this trading strategy has been inconsistent over time.
Source: CNBC
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7. January Barometer
Experience Insight Impact
Another market legend is that January’s return predicts the direction of the stock market for the whole year.
The above scatterplot of Full Year Return vs. January Return shows some evidence of a predictive nature.
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8. January Barometer: Recent Evidence
Experience Insight Impact
However, the recent
track record for the
January Barometer
has been poor.
Trading based on the
January Barometer
would have led to
missing out on some
of the greatest rallies
after the Great
Financial Crisis of
2008.
It is frequently
pointed out that
correlation is not the
same as causation.
+15.8%
+5.5%
-37.0%
+26.5%
+15.1%
+2.1%
+16.0%
+32.4%
+13.7%
+1.4%
+12.0%
S&P 500 Return
Source: Business Insider, Wolf Street
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9. Sell in May and Go Away
Experience Insight Impact
Returns during the cooler months significantly outpaced returns during the warmer months.
Since 1928, $100 invested in the S&P
500 during the November through
April period would now be worth
$4,270. However, $100 invested during
the May through October period would
only be worth $257. The trend is
similar over the last 50 years ($2,136
for November-April vs $139 for May-
October) and over the last 20 years
($343 for November-April vs $98.50 for
May-October).
Source: Factset
Source: Investment U
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10. Sell in May and Go Away: Reality
Experience Insight Impact
• Despite the striking statistics
behind the phrase “Sell in May and
Go Away,” a portfolio reflecting
these actions did not outperform
the simple buy-and-hold portfolio
over the long-term.
• We would also point out that there
have been numerous times where
this has not worked. For example,
in 2009, investors would have
missed out on 20.5% in gains
(excluding dividends) had they not
been invested during the warmer
months.
• There is also an element of
randomness to the exact timing,
which presents the distinct
possibility of data mining.
Source: CXO Advisory Group, Forbes
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11. Market Perspective – January 2019
Experience Insight Impact
Conclusion: Many investors today lament the rise of machines in the investing world. While this may
be the case, the human element of investing is still very much in play. While some may rely on old
“rule of thumb” examples of how to trade and invest, deep due diligence and research remain
essential (as does a long-term view). Acknowledging the imperfections of human nature will give
investors a leg up and reduce the inevitable challenges presented in behavioral investing.
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12. Disclaimer
Experience Insight Impact
Opinions expressed in this commentary may change as conditions warrant and is for informational
purposes only. Information contained herein is not intended to be personal investment advice for
any specific person for any particular purpose. We utilize information sources that we believe to
be reliable but cannot guarantee the accuracy of those sources. Past performance is no guarantee
of future performance; investing involves risk and may result in loss of capital. Consider seeking
advice from a professional before implementing any investing strategy.
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