What do you do when two “indicators” contradict each other?

I’m talking , of course, about the “January Indicator,” which claims that “as goes January, so goes the rest of the year,” and the “Super Bowl Indicator,” which claims that a win by the NFC team (this year, the Seahawks) foretells a positive year for the markets. 

Not very many people take the Super Bowl Indicator seriously, and for good reason.  It’s ridiculous.  But proponents of the January Indicator will claim that it has a 90% accuracy rate. In quantland, this is what is called a “spurious correlation,” or an apparent correlation that happens due to coincidence and nothing more. As an example, butter production in Bangladesh may strongly correlate to the returns of the S&P 500—when you combine it with U.S. cheese production and the sheep population of the U.S. and Bangladesh, the correlation goes to 0.99—but no one in their right mind would argue that the two were actually related.

And since we’re tossing numbers around, I should mention that the S&P 500 is still positive in a majority of years in which January was a down month. To be precise, the S&P 500 has risen 56% of the time following down Januarys since 1945.

This is a long way of saying that you should ignore indicators that have no plausible explanation.  If you can’t credibly say why an indicator “causes” the market move it purportedly predicts, then chances are good that it is spurious.  And no, a sense of despondency among Broncos fans is not a plausible explanation. 
So, what about the rest of the year?  Ultimately, the factors that will matter to returns this year are valuation, Fed policy and market psychology.  If you want to play the contrarian card, start accumulating shares of emerging markets.  As a group, emerging markets trade at a steep discount to their developed-world rivals and market sentiment is terrible (which is a contrarian bullish sign).  The Fed’s tapering is a headwind, but it also appears that most of the damage has already been priced in, and at any rate, even in the midst of tapering Fed policy remains exceptionally loose.

My recommendation? 

Buy the EG Shares Beyond the BRICs ETF (BBRC) on dips. Use a   15% trailing stop and plan to hold for the next 12-24 months for what I expect to be returns of 50-75%.

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