Gordon Pape: Why you shouldn’t use market history as a guide this time around

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Every investment promotion you see or hear comes with this obligatory caution: Past performance is no guarantee of future results.

In other words, history is history. We may learn from it but it isn't necessarily a predictor of what will happen next.

For example, if we were to use history as a guide as to what the stock markets will do for the rest of the year, we'd be snapping up every quality equity in sight. Earlier this month, CIBC World Markets published a fascinating analysis of what has happened over the past 25 years when stock markets recorded a loss in January.

Prepared by Brad Brown, it found that on the nine occasions this happened in Canada, two-thirds of the time the S&P/TSX Composite Index recorded a gain in the subsequent 11 months. In all cases they were in strong double-digit territory, ranging from 17.3 per cent in 1996 to 35.1 per cent in 2009. The three losing years were also double-digit, however, ranging from a loss of 12.1 per cent in 1990 to a decline of 31.7 per cent in 2008. The average return after a January loss was 10.5 per cent.

In New York, the S&P 500 showed a similar pattern, although not as dramatic. It had 11 negative Januarys during the period. On eight occasions, the index was up in the following 11 months although sometimes by only a small amount (0.3 per cent in 1990, 2.5 per cent in 2015). In this case, the average return in the 11 years was a modest 4.6 per cent.

Based on these historic results, the odds would favour a positive return to the markets over the rest of this year. But let's take a closer look. The biggest gain for the S&P 500 was 35 per cent in 2009 in the snap-back from the 2008 crash, followed by 29.9 per cent in 2003 as the world recovered from the high tech bust. The TSX also had its most impressive bounce in 2009, followed by a 30.7-per-cent jump in 1993 as Canada emerged from the recession of 1990-92.

In all those cases, the markets were rebounding from huge sell-offs. That's not the situation today. Even though the TSX has moved into bear market territory, it's a long way from the damage wrought in 2008 and early 2009 when it lost about half its value. In New York, the S&P 500 still looks somewhat overpriced, in sharp contrast to the bargains that prevailed in early 2009 when investors reached the capitulation phase.

The tone of the market so far this year is pessimistic but not yet despairing. Although the trends are down, triple-digit rallies such as we saw on Friday suggest investors are searching for any good news. One major positive event could change the mood and reverse the downward pattern. An announcement that Saudi Arabia and its OPEC partners have agreed to an across-the-board 5-per-cent production cut would do the trick, as would improved trade and production numbers from China.

Absent any such white swans, the downward drift will probably continue for some time, history notwithstanding. So hope for the best but be prepared to wait out the turmoil if necessary.

Gordon Pape is Editor and Publisher of the Internet Wealth Builder and Income Investor newsletters. Follow him on twitter @GPUpdates and on Facebook.