Dear Mr. Berko:

A new neighbor of ours, who can be obnoxious at times and is a know-it-all, talks about a “barometer” that can predict what the stock market will do over 11 months. From listening to this guy talk, and he loves to be heard, his barometer has given him an average return in the last 10 years of better than 18 percent. I know that sounds like a bunch of beans, but this guy seems serious as can be about how he makes his investment in February and sells it in December.

Can you tell me what this barometer is, how it works and whether or not our neighbor is on the level? We’re just a middle-class neighborhood, and none of us has any money or stock market investments to brag about except this neighbor, who seems to be a lot better off than most of us. We’d appreciate anything you can tell us about the barometer that our neighbor uses to, as he says, “measure the pressure of the market.”

S.G., Wilmington, N.C.

Dear S.G.:

I know guys like your new neighbor, and I’m glad you see through him. Please remember that his personality traits might be a function of his insecurity as well as a strong desire to be accepted by you and his neighbors. Give the fellow a little more of your patience, and I’ll wager a pound of jelly beans to a box of rocks that in the next nine months this fellow will become one of the boys in the neighborhood.

The barometer is a statistical measurement of the Standard & Poor’s 500 index. It was devised in 1972 by Yale Hirsch, who is best known as the creator of the “Stock Trader’s Almanac.” Hirsch’s barometer measures the January performance of the S&P 500 and translates that measurement into the market’s direction for the remaining 11 months of the year.

Here’s how it works. Since 1950, there have been 35 times when the S&P’s index was in positive territory during the first five days of January. Following those five up days, the S&P had solid gains for the remaining 11 months, which represents an accurate predictability ratio of nearly 88 percent. In fact, the average gain for those 35 years (which includes the five years when the S&P was up during the first five days but closed lower at year’s end) was 13.7 percent. That’s not unimpressive!

That 13.7 percent average return exceeds the performance of the Dow and S&P since the “lame duck” amendment in 1934 changed the political calendar. (Prior to 1934, the newly elected senators and representatives didn’t take office until March of the following year, four months later. Defeated congressmen remaining in office through that period were known as “lame ducks.”) So having a darned good handle on how the S&P will perform the remainder of the year can provide investors with a moneymaking opportunity. A down January seems to be a precursor of trouble — politically, militarily and economically.

Dwight Eisenhower’s heart skipped a few beats in 1955, and the Republican Party doubted that he would be able to run again in 1956; the S&P was flat as a cutting board that year, up 2.6 percent. Eleven bear markets continued into their second years with a poor January showing. In the past 55 years (since 1950), every down January presaged a new bear market, a continuing bear market or a flat market. So excluding 1956 (January was down 3.6 percent but the S&P was plus 2.6 percent), a down January was followed by substantial market declines averaging a negative 13.1 percent. And that’s not an unimpressive statistic, either.

The best way to take advantage of these anomalies might be to buy the S&P 500 Index (SPY-$125.75). This is an exchange-traded fund that holds all the stocks in the S&P 500. This investment, which has a dividend yield of 1.6 percent, seeks to imitate the performance of the index before fees and expenses, which come to about one-tenth of one percent. So if your neighbor has followed the discipline of the January barometer since 1995 and bought SPY when January was positive, he earned an average annual return of 18.4 percent. He would have lost money only in 2001, when the S&P was up 3.5 percent in January but down 13 percent for the year.

Please address your financial questions to Malcolm Berko, P.O. Box 1416, Boca Raton, Fla. 33429 or e-mail him at malber@adelphia.net.

© Copley News Service