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There's a traders' omen that suggests the month of January sets the tone for stock markets in the full year ahead. This seems reasonable since for the past 100 years, January's performance has predicted the outcome of the full year 75% of the time. Not perfect, but the odds are decent.

Taking that market barometer one step further, since 1984 the Dow Industrials have generated an average annual return of 14% after a positive month of January.

Lots of month left, but it would be great if we can hold on to these gains through month-end. To be clear, the strong kick off has been a bit of a knee jerk reaction to Washington's last minute compromise, but we think there is more to this than just cliff avoidance relief. A positive kick off to earnings season and some better than expected economic data out of China helped set a more positive tone for markets.

Read: Fiscal cliff FAQ

Bonds recovered from their previous week selloff on rumours of a French sovereign credit downgrade. Steady monetary policies at both the Bank of England and the European Central Bank (no changes) offset some profit taking in stocks in the early going this week.

The big catalyst for 'risk-on' trading last week was China. The Chinese reported monthly exports in December that were three times greater than the market was expecting. As well, their monthly import numbers were double the level anticipated giving evidence the recovery in China is gaining momentum.

In fact, the data may have been a little too hot as Chinese inflation numbers were also strong, which suggests the People's Bank of China will have less room to roll out additional monetary stimulus going forward.

Commodities responded to the news from China with oil making multi-month highs and gold gaining US$20/ oz. The resource-centric Aussie and Canadian currencies gained with the China news. The loonie increased about 0.33% on the U.S. dollar this week. As for stocks, the S&P/TSX index is now back at levels last seen about one year ago and U.S. stocks touched 5-year highs just as earnings season gets rolling. Big price moves by Healthcare, Materials, and Technology stocks have pushed the recent stock market ascent.

Read: How to read the commodities market

Aluminum giant Alcoa, the unofficial pace car for the earnings parade, reported solid results this week. Top-line revenues were ahead of analyst estimates, and their 2013 guidance was a bright spot. Alcoa said it sees global aluminum demand growth of 7% this year, up from 6% in 2012. Wells Fargo posted strong results but highlighted a strange problem: they have too much money! Rapid deposit growth is pressuring their net interest margins or the difference between what they payout on deposits and what they charge on loans.

Question of the week

Now that we are past the fiscal cliff, there seems to be increased optimism about the prospects for the global economy. Is it justified?

Surveys suggest the global economy is beginning 2013 with greater momentum than just a few months ago, but the big question is can it last? The U.S. avoided the worst of the fiscal cliff – at least for now – with an eleventh-hour compromise and more battles expected in the months ahead.

The Fed remains committed to keep interest rates low until the employment situation improves significantly but it is uncertain how they will act once the unemployment rate reaches their specific target. Financial stresses in the Eurozone have eased with Spanish and Italian ten-year government bond yields at one and two-year lows, but there are a series of calendared events which could quickly disrupt the recent calm and reverse the recent trend in yields.

Also, China's economic recovery has gathered steam with stronger December data on trade and consumption, but can and will the trend continue?

Despite accelerating slightly of late, global growth remains quite subdued by historical standards and the global composite PMI for December is still lower than it was in the first quarter of last year. Even in the U.S., where the recovery is comparatively robust, GDP was growing at only about 2% in late 2012 and this pace will not move the unemployment needle lower.

Economies in the Eurozone remained extremely weak at the end of 2012. Peripheral Eurozone bond yields are likely to move higher as Spain has made little progress in cutting its budget deficit and in Italy, elections in late February are likely to result in a coalition government which will find it difficult to implement the required structural reforms.

The upturn in activity in China has, like in the past, been largely driven by increased public sector infrastructure spending. Given there are limits to how much the politburo is likely to continue ramping up infrastructure investment, Chinese growth is likely to only match the 7.5% or so recorded in 2012.

Read: Why investors should be optimistic about 2013

Overall, optimism about the prospects for the global economy is justified. But we are entering fourth quarter earnings season with stocks trading at 5 year highs. How much has been already priced into the equity markets is up for debate.

The surge in the first few days of the year and the strong run in the last half of 2012 have pushed values higher and the litany of uncertainties or rolling crises have not gone away. Don't be surprised if one of them flares up and exerts pressure on the fragile pace of economic growth and a pullback in the equity and commodity markets.

David Andrews is the Director, Investment Management & Research at Richardson GMP in Toronto. This team of research experts is responsible for monitoring and interpreting economic, geo-political situations, current market environments and trends.
@David_RGMP
Originally published on Advisor.ca

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