The IRS may be one of the reasons the stock market finished March on such a strong note.
Yes, the Internal Revenue Service.
I base this bizarre theory on the historical tendency for the stock market to be stronger than average during the first half of April. Some of the analysts I monitor have speculated that this strength is because of tax bills coming due.
Consider: Over the last 60+ years, the Dow Jones Industrial Average
has produced an average gain of 1.2% in the first half of April. The comparable average for the other 11 months is 0.2%. This difference is significant at the 95% confidence level that statisticians often use to determine if a pattern is genuine.
(See chart, below. The averages plotted reflect data back to 1955, which is when April 15 became the tax filing deadline.)
The government wants the economy to be as liquid as possible during early April
Why would the IRS care whether the stock market is strong as Tax Day approaches? One theory is that the government wants the economy to be as liquid as possible during early April in order to facilitate the payment of tax bills, and that some of that additional liquidity finds its way into the stock market.
Read: This type of taxpayer has fewer IRS headaches and money worries
In any case, stocks in coming sessions will be supported by favorable sentiment conditions. This represents a big shift from what prevailed in early March, when the mood among some market timers was approaching irrational exuberance. Thats when the stock market appeared to be recovering from its late-January/early-February correction, and some market averages such as the Nasdaq Composite
had reached new all-time highs.
Market-timers mood nowadays is a lot more subdued, if not outright pessimistic, and from a contrarian point of view that is a positive omen.
Consider the average recommended stock market exposure level among Nasdaq-oriented market timers I monitor (as measured by the Hulbert Nasdaq Newsletter Sentiment Index, or HNNSI). In mid-March, this average soared to above 90%, higher than 98% of all readings of the last two decades, and more than four times higher than the historical average of 21.5%. Contrarians, therefore, were not surprised by the market subsequently plunged.
By the last week of March, in contrast, the HNNSI had fallen to minus 29.0%. There was only one other occasion over the last 20 months when this sentiment index average got this low, and that was on Feb. 8 of this year, the date of the late-January-early-February correction low. Contrarians therefore believe the sentiment winds will be blowing in the direction of higher prices for the next week or two.
So dont be surprised if the stock market does better in the first two weeks of April than it did in March. And if it does, dont forget to thank the IRS.
For more information, including descriptions of the Hulbert Sentiment Indices, go to The Hulbert Financial Digest or email firstname.lastname@example.org .
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