In a letter to clients last week, Goldman Sachs (GS) chairman Jim O’Neill took a pragmatic approach by only offering a soft forecast for 2012 equity market performance. His reasoning for this timid preview was that since 1950, when the first five accumulative trading days produced a positive return, stocks had traded up for the year “86.8% of the time.” Justifiably, Mr. O’Neill wanted to take a peek at the market performance of the first week before he hardened up his opinion. Since 2011 was not a year that fit this mold (the S&P’s first 5-day return of 1.1% eclipsed its annual return), I wanted to take a deeper dive into the numbers to see if the first week’s trading does in fact prove prescient about the directionality or magnitude of annual returns.
Taking a broader data sample beginning at year-end 1927, the S&P 500 finished up in its first week of trading on 56 occasions.For those years in which the S&P began with positive performance, it finished up on the year 41 times (73.2%) and down only 15 times (26.8%). In years where the first week return was positive, the arithmetic average annual price return was 9.8% versus an average increase of 2.2% for years where the trading calendar began with a negative first week performance. Hopefully for equity bulls, this is a positive harbinger after the solid first week performance in 2012.
While the sample size is statistically significant, efficient market proponents would argue that a sustainability of the predictive power of this first week performance could be arbitraged away. Behaviorists might counter with the oft-studied January effect that indicates higher returns in the first month of the calendar year. If a continuation of last week’s success is anomalous or a confirmation of a greater trend, market participants on the long side will welcome it.